Asia Palm oil.PDF

Disclaimer & Disclosures This report must be read with the disclosures and the analyst certifications in the Disclosure appendix, and with the Disclaimer, which forms part of it.

Issuer of report: The Hongkong and Shanghai Banking Corporation Limited

View HSBC Global Research at:

https://www.research.hsbc.com

Key demand centres in Asia want more palm oil, just as…

…El Niño has set up a supply crunch in vegetable oils

With palm oil prices set to rise, we initiate Buy on GGR, IFAR and FR, Hold on WIL; leverage isn’t a bad thing in an upcycle

Demand coming back: After two years, things are finally looking up for palm oil

producers. Indonesia’s biodiesel demand is set to recover with new subsidies rolled out

in mid-2015. Soybean crush, primarily used as animal feed, delivered enough soy oil to

hurt palm oil in China. But, unlike the rest of the Street, we think that China’s animal

protein appetite is approaching saturation and slowing soy growth would leave palm oil

with a larger share of the market. India, the biggest consumer, is predominantly

vegetarian and needs oil without the by-product meals – palm oil is the only major crop

to offers this. We estimate these factors will drive demand up by 6% y-o-y in 2016.

Supply crunch taking shape: 2H15 saw the strongest El Niño in 17 years and most

commentators expect it will result in lower palm oil production this year. Furthermore,

record harvests of oilseeds, like soybean, which have been crowding palm out of the

market in the past four years, could end in 2016 with dryness in Brazil. At the same

time, USD strength is pricing out US soybean, pointing to a reduction in acreage in

2016. A La Niña could further reduce global soybean production in 2016.

Don’t worry about inventory; go upstream: A 4.4MT gap between production and

demand in 2016 is likely enough to work through the 3MT of surplus stock. Declining

inventory would trigger a rally in crude palm oil (CPO) prices and we recommend

buying upstream players, particularly the ones whose shares are most sensitive to the

CPO price. GGR is our non-consensus preferred stock. Admittedly, it screens weakly

on volume growth and return metrics, but the combination of liquidity, leverage and high

correlation (0.9x) to the CPO price makes it the vehicle of choice for global investors to

get exposure to palm oil. Our target prices for upstream stocks (GGR, FR and IFAR)

are based on peak one-year forward EV/EBITDA during the last five years (1.5-2.0

standard deviations above the five-year average). High leverage and operations in

oversupplied downstream industries make Wilmar our least preferred stock.

20 January 2016

Shishir Singh* Analyst The Hongkong and Shanghai Banking Corporation [email protected] +852 2822 4292

* Employed by a non-US affiliate of HSBC Securities (USA) Inc, and is not registered/ qualified pursuant to FINRA regulations

Asia Palm Oil EQUITIES PALM PLANTATIONS

Singapore

Ratings, target prices and valuations

Company BB Rating Current Target Up/Downside Mkt Cap _ EV/EBITDA _ ____ PE _____ ___ RoE ____ ____ PB _____ Net Debt/EBITDA Ticker Price Price (%) USDm 2016e 2017e 2016e 2017e 2016e 2017e 2016e 2017e 2016e 2017eWilmar WIL SP Hold SGD2.67 SGD2.58 -3.4 11,872 11.2x 10.1x 10.4x 9.8x 7.6 7.8 0.8x 0.7x 6.7x 6.0xGolden Agri GGR SP Buy SGD0.34 SGD0.47 38.2 3,031 8.3x 7.5x 13.8x 12.2x 3.5 6.2 0.8x 0.7x 3.8x 3.3xFirst Resources FR SP Buy SGD1.77 SGD2.11 19.5 1,941 7.4x 5.8x 12.3x 9.4x 19.9 27.3 2.9x 2.3x 0.8x 0.4xIndofood Agri IFAR SP Buy SGD0.46 SGD0.56 23.1 457 6.1x 4.9x 15.0x 7.8x 3.3 6.7 0.5x 0.5x 2.7x 2.1xSource: Thomson Reuters Datastream, HSBC estimates. Valuations as at the close of 15 January 2016.

Initiate with a bullish view: Blame it on the rain

2016e palm oil production growth estimate

-1%

+6%

2016e palm oil demand growth estimate

Crude palm oil price growth (y-o-y)

2016e16%

2017e5%

2015 -24%

Source for the above charts: Bloomberg, HSBC estimates

http://www.research.hsbc.com/

https://www.research.hsbc.com/midas/Res/RDV?p=pdf&key=gbd7dLhXWX&n=493201.HTM

EQUITIES PALM PLANTATIONS

20 January 2016

2

Investment summary 4

Stronger demand ahead 12

Supply crunch taking shape 27

Companies 35

Wilmar International (WIL SP) 36

Golden Agri (GGR) 48

First Resources (FR SP) 60

Indofood Agri (IFAR) 71

Disclosure appendix 85

Disclaimer 89

Contents

3


20 January 2016

Investment thesis summary in charts

As supply-demand imbalance becomes favourable in palm oil due to El Niño

...and oilseed supply shrinks due to low commodity prices, weather and USD strength

Source: MPOB, USDA, GAPKI, SEAI, Bloomberg, HSBC estimates Source: USDA estimates. 2015 refers to Marketing Year starting October 2015.

CPO inventories are likely to fall from their peak …and CPO prices are likely to move up

Source: MPOB Source: Thomson Reuters Datastream, HSBC estimates

All upstream stocks are rated Buy, but GGR and IFAR’s EPS is most sensitive to CPO prices

We also like GGR and IFAR because of their high correlation (c0.9x) to CPO prices

Source: HSBC estimates Source: Thomson Reuters Datastream, HSBC

-2.0-1.00.01.02.03.04.05.06.07.08.09.0

2009

2010

2011

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e

2016

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e

Demand growth (%) Production growth (YoY%)

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-7.9

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2010 2011 2012 2013 2014 2015e

Soybean RapeseedSunflowerseed

YoY%

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1,050

1,200

1,3501.00

1.50

2.00

2.50

3.00

06 07 08 09 10 11 12 13 14 15

Malaysia palm oil inventory (mn tonnes)

Crude palm oil price (USD/Tonne, RHS)

416

725

872

647

863

1,078

937

761

745

566656

688

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06

2007

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CPO Price, Mysia, FoB (USD/tonne)

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5 6

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WIL FR GGR IFAR

2016 EPS 2017 EPS

2016-17 EPS Chg. for 1% Chg. in CPO price estimate

50.0

60.0

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90.0

100.0

110.0

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-14

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15

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CPO FR WILGGR IFAR


20 January 2016

4

Demand growth to return as Asia buys more from Asia

2014 was a year that palm oil investors would like to forget. Both Chinese and Indian imports,

approximately a quarter of global demand and almost 40% of seaborne trade, were falling. As

Indian demand started recovering following parliamentary elections in mid-2014, crude prices

fell sharply and pulled biodiesel demand, representing c15% of global palm oil demand, down

with it. A sluggish start in 2015 is now turning into something more concrete. The next two years

look promising to us but not many believe it yet.

We expect palm oil demand to grow by 6.4% y-o-y, above the long-term trend growth of 5.5%

p.a., in 2016. This would add 3.7 million tonnes (MT) to global demand in 2016, supported

particularly by the following regions:

An increase of 1.4MT in Indonesian demand, primarily driven by an increase of 1.2MT in

demand for biodiesel after the implementation of a new pricing policy in July 2014. The

revised policy has linked biodiesel prices to crude palm oil (CPO) prices instead of

depressed crude oil prices. The government has also established a plantation fund, which

would collect levies on palm oil exports and subsidises biodiesel uptake in the country.

Investment summary

The likely gap of 4.4MT between supply and demand growth in 2016

should soak up excess inventory

We initiate all upstream players (GGR, IFAR and FR) with a Buy rating

but prefer GGR the most for its high correlation with CPO prices and

its high liquidity

WIL’s carry trade with highly leveraged USD liabilities and weak

downstream operations drives our initiation with a Hold rating

2016e demand growth driven by Indonesia, India and China (MT)

Source: USDA, Bloomberg, SEAI, Thomson Reuters Datastream, HSBC estimates

Policy in home market and

competition from soybeans

in export markets are major

determinants of demand

1.4

0.50.8

1.1

53.5

54.5

55.5

56.5

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5


20 January 2016

An increase of 0.8MT in Indian demand. Indian demand has recovered since the

parliamentary elections in mid-2014. Barring a sharp macroeconomic deterioration, we see

little risk to our forecast since India’s per-capita consumption of vegetable oils is well below

global benchmarks and competition from soy is relatively benign, given the low requirement

for animal protein because of a large vegetarian population.

An increase of 0.5MT in Chinese demand as the displacement of palm by soy is abating.

China’s consumption of animal protein (soymeal) is now near saturation levels seen in the EU

and the US. This is likely to limit the need to crush soybean into soymeal for animal feed

and, as a result, the supply growth of soy oil, a by-product of crushing, would slow as well.

We expect this to leave palm oil with a sizable share of the vegetable oil market.

Stars lining up for a supply crunch

The strong growth in Indonesian acreage over the last seven years has given the sector the

potential to deliver palm oil production growth of 3-4MT annually for the next 2-3 years.

However, weather is an external influence, which threatens to derail production in 2016. Strong

El Niño conditions have prevailed for six months and most indicators suggest this is the

strongest El Niño in 17 years, if not longer. The associated dryness in Indonesia and Malaysia

is likely to cause a drop in fresh fruit bunch (FFB) yields with the impact being relatively severe

on older plantations.

Consequently, we expect Indonesian output to shrink. Historically, El Niño events have

supported CPO prices, but we suspect a more pronounced effect this time since the CPO

production shortfall is unlikely to be filled easily by other vegetable oils or excess inventory of 2-

3MT or so (2-3 weeks of consumption).

Chinese imports growing again... …and Indian import growth has recovered

Source: Bloomberg, HSBC Source: SEAI, Bloomberg, HSBC

EM production of vegetable

oils hurt by weather, US

output likely to be held back

by a strong USD

El Niño events have typically been positive for CPO prices

USDA expects a decline in production of the top three oilseeds in MY15-16

Source: Thomson Reuters Datastream, Australian Bureau of Meteorology Source: USDA estimates. 2015 refers to Marketing Year starting October 2015.

-30.0

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China Palm oil imports Trailing 12-m YoY%

-20

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India Palm oil imports Trailing 12-m YoY%

0

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El Nino CPO price (USD/ton, MY FOB)

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2010 2011 2012 2013 2014 2015e

Soybean RapeseedSunflowerseed

YoY%


20 January 2016

6

The downside risk is increasing production of oilseeds, CPO’s main competitors in the

vegetable oil market. Rapeseed and sunflower seed farmers have started responding to low

prices by cutting future production. Soybean, the biggest oilseed in the vegetable oils market,

hasn’t responded in the same fashion yet, but the downside risks to its output are increasing.

Even though, the USDA still expects US soybean output (one-third of global output) to stay

steady, there is no doubt that farmers are being hurt by a strong USD and low prices. Their

Brazilian peers, shielded by FX depreciation, plan to increase soybean acreage, but El Niño’s

effect on North/Northeast Brazil may not allow this. In addition, a La Niña follow-up to El Niño

creates more downside risk for US soybean.

Inventory to turn from an overhang to a catalyst

The pressure from rising inventories is still spooking the crude palm oil (CPO) market. Golden

Agri (GGR) and Indofood Agri (IFAR), the upstream companies whose shares are most heavily

correlated to CPO prices, tracked the decline in CPO, falling 26-32% in 2015 as investors either

abandoned ship or left for safer balance sheets like that of First Resources (FR). Wilmar (WIL),

the only downstream stock discussed in this report, spent the first half of the year in an

uneventful manner, but its FX loss resulting from RMB depreciation in the middle of the year has

reignited concerns about its debt.

Palm oil inventories have surged this year FR and WIL have outperformed GGR and

IFAR in 2015

Source: MPOB, Bloomberg, HSBC Source: Thomson Reuters Datastream

Still, with the way that demand and supply are shaping up, we think there is a lot to be optimistic

about. In our view, about 2-3MT of excess inventory should be easily soaked up by a 3.7MT

increase in demand and 0.7MT contraction in supply during 2016. In fact, we expect the

reversal in inventory levels to act as a catalyst for a rally in CPO and upstream stocks.

300

450

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900

1,050

1,200

1,3501.00

1.50

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06 07 08 09 10 11 12 13 14 15

Malaysia palm oil inventory (mn tonnes)

Crude palm oil price (USD/Tonne, RHS)

50.0

60.0

70.0

80.0

90.0

100.0

110.0

120.0

Dec

-14

Jan-

15

Feb

-15

Mar

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-15

May

-15

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15

Jul-1

5

Aug

-15

Sep

-15

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-15

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Dec

-15

CPO FR WILGGR IFAR

Palm oil production

(MT) 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e 2016e 2017e

Indonesia 18.0 20.7 22.0 23.3 25.1 28.6 30.1 32.9 31.9 34.4 Malaysia 17.7 17.6 17.0 18.9 18.8 19.2 19.7 20.0 20.1 20.5 Rest of the world 8.0 7.6 9.5 9.5 11.6 10.9 11.1 9.5 9.6 9.7 World 43.7 45.9 48.5 51.7 55.5 58.6 60.9 62.4 61.6 64.7 y-o-y % 5.0 5.7 6.6 7.2 5.7 3.9 2.4 -1.2 4.9

Source: USDA, Bloomberg, Thomson Reuters Datastream, HSBC estimates. *Approx. one-third in Thailand, one-third in W. Africa.

Excess inventory, which has

been an overhang, amounts

to two weeks of demand and

is set to shrink

7


20 January 2016

Upstream is the place to be as strong demand meets weak supply

As demand rebounds & supply shrinks… …CPO price would rise to mid-cycle levels

Source: MPOB, USDA, GAPKI, SEAI, Bloomberg, HSBC estimates Source: Thomson Reuters Datastream, HSBC estimates

In our view, as the gap between supply growth and demand growth rises through 2016, CPO

prices would start moving up. A reduction in Malaysian inventory levels (reported monthly) is

likely to be an important catalyst. We forecast the Malaysian CPO price (FOB) average to rise to

around USD650/tonne next year from close to USD530/tonne currently. A La Niña event later in

2016 has the potential to push prices above USD750/tonne, but we take a more conservative

sub-USD700/tonne forecast view for now. How can equity investors get exposure to this upside

in CPO prices?

We focus on the Indonesian plantations listed in Singapore in this report. More specifically, we

focus on stocks that give equity investors exposure to the forthcoming upturn in palm oil prices.

So, even though valuations are an important metric for us, we think that the true value lies in

finding stocks that are most sensitive to CPO prices. Golden Agri (GGR) stands out as the most

liquid and tightly correlated upstream stock, which we believe explains its valuation premium as

well. Indofood Agri (IFAR) offers a similar exposure but in the small-cap space. Its lack of

liquidity likely limits its investor base. Earnings at both these companies would swing by 6-10%

for every percentage point move in our CPO price forecast.

Wilmar (WIL), the only downstream heavy and Hold-rated stock in this report, is at the other end

of the spectrum. Its earnings are largely insensitive to CPO prices or even to its downstream

operations. Since 2012, WIL has increasingly relied on its treasury operation’s ability to profit

from the carry trade of funding high-yielding RMB investments with low-cost USD financing.

Interest income rose to as much as 44% of the company’s EBIT in 2014 compared to less than

10-12% prior to 2012.The currency risk built into this trade became evident when WIL reported

-2.0-1.00.01.02.03.04.05.06.07.08.09.0

2009

2010

2011

2012

2013

2014

2015

e

2016

e

2017

e

Demand growth (%) Production growth (YoY%)

416

725

872

647

863

1,078

937

761

745

566656

688

400

600

800

1,000

1,200

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

e

2017

e

CPO Price, Mysia, FoB (USD/tonne)

While mindful of valuations,

we like upstream stocks most

correlated to CPO prices

GGR’s valuation premium is justified by its liquidity and correlation with palm oil prices

Source: Bloomberg, HSBC estimates. GENP = Genting Plantations, KLK = KL Kepong, SIME = Sime Darby, FGV = Felda Global Ventures (All Not Rated)

WIL’s treasury operations

cloud its investment case;

FR’s quality just seems like a

“hiding” place WIL

GGR

FRIFAR

SIME

IOI KLK FGVGENP

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

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18.0

-0.4x -0.2x 0.0x 0.2x 0.4x 0.6x 0.8x 1.0x

Dai

ly t

rad

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val

ue

1-y

r av

g (U

SD m

n)

Correlation of stock price & CPO price since end of 2011


20 January 2016

8

a FX loss due to RMB depreciation in 3Q15. The inherent macro-risk has clouded its investment

case and investors are likely to find the stock challenging, even if its downstream operations

were to become better (unlikely in near term, discussed below).

First Resources (FR) stands out as a quality high RoE generating upstream stock in the sector.

Its young plantations offer production growth and its low operating and financial leverage

reduces the sensitivity of its earnings to CPO prices. Fundamentally, there is nothing to dislike

about the stock, which is why we have it at a Buy, but its weak correlation with CPO prices casts

doubt over whether it should be considered the preferred stock for investors to play the palm oil

upcycle. GGR is our preferred stock for exactly this reason.

Estimated percentage change in 2016-17e EPS for each percentage change in CPO price

Source: HSBC estimates

Valuation methodology summary

Stock Valuation Based on ____ TP implies DCF at ______ Ticker Methodology 1-yr forward EV/EBTIDA CoE Terminal growth

WIL SP 2016e EV/EBITDA ~11.2x 5-yr avg. - 1σ 8.8% 3.0% FR SP 2016e EV/EBITDA ~8.7x 2σ + 5-yr avg. 14.0% 3.0% GGR SP 2016e EV/EBITDA ~10.0x 2σ + 5-yr avg. 12.5% 3.0% IFAR SP 2016e EV/EBITDA ~5.9x 1.5σ + 5-yr avg. 15.7% 0.0%


Our EBITDA estimates are in line or ahead of consensus, but net profit estimates are below the

Street. In our view, consensus has probably not adjusted numbers fully to account for the

increase in depreciation due to adoption of IAS 16 from 1 January 2016 and this is what

explains the difference between our net profit estimates and those of the Street.

To explain this further, we would highlight that Singapore-listed plantation companies will adopt

IAS 16 for the accounting of biological assets from 1 January 2016. The new standard requires

biological assets classified as bearer plants to be accounted for like property, plant and

equipment (PPE) and be depreciated as such. So far, these assets were recorded at DCF-

based fair values less costs to sell under IAS 41. Under the new standard, the biological assets,

0

2

6

10

0

2

5 6

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2.0

4.0

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WIL FR GGR IFAR

2016 EPS 2017 EPS

Ratings, target prices and Valuations

Company BB Rating Current Target Up/ Downside

Market Cap

EV/EBITDA __ PE ____ __ RoE ___ __ PB ____ Net Debt/EBITDA

EPS growth (%)

Ticker Price Price (%) USDm 2016e 2017e 2016e 2017e 2016e 2017e 2016e 2017e 2016e 2017e 2016e 2017e

Wilmar WIL Hold SGD2.67 SGD2.58 -3.4 11,872 11.2x 10.1x 10.4x 9.8x 7.6 7.8 0.8x 0.7x 6.7x 6.0x 1.0 6.2 Golden Agri GGR Buy SGD0.34 SGD0.47 38.2 3,031 8.3x 7.5x 13.8x 12.2x 3.5 6.2 0.8x 0.7x 3.8x 3.3x 38.4 13.0 First Resources FR Buy SGD1.77 SGD2.11 19.5 1,941 7.4x 5.8x 12.3x 9.4x 19.9 27.3 2.9x 2.3x 0.8x 0.4x 26.6 30.6 Indofood Agri IFAR Buy SGD0.46 SGD0.56 23.1 457 6.1x 4.9x 15.0x 7.8x 3.3 6.7 0.5x 0.5x 2.7x 2.1x 23.5 91.8

Source: Thomson Reuters Datastream, HSBC estimates. Valuations as at the close of 15 January 2016.

9


20 January 2016

which were carried at fair value based on DCF of the plantations, will be written down to cost

and, unlike the prior method, depreciation will be charged for mature plantations.

In fact, our choice of EV/EBITDA over other valuation metrics, such as PE and PB, is driven by

the fact that EBITDA will not be impacted by the company’s switch to IAS 16 from 1 January

2016 and the calculation EBITDA will remain consistent with history. On the other hand, both

earnings and book value are set to contract due to IAS 16, skewing historical comparisons.

Although, the accounting change would result in lower earnings and book value, it would have

no impact on a company’s cash flows. As a result, we expect the PE and PB multiples of

Singapore-listed plantation stocks to rise.

Downstream margins likely to remain pressured

Although Malaysian palm refining capacity has remained stable at around 24-25MT p.a. during

the last three years, Indonesian refining capacity has surged due to a change in Indonesian

export taxes in late 2011. Under the new tax regime, the export tax on processed palm oil

products was cut from 25% to 10% to a lower level compared to the prevalent tax on CPO. The

preferential tax treatment of processed product has continued even in the newly instituted

export levies from the middle of 2015. The export levy amounts to USD50/tonne for CPO and

USD25-30/tonne for the refined product if the CPO price is below USD750/tonne.

Needless to say, lower export taxes on refined products encouraged domestic capacity creation

on a scale. According to the Indonesia Vegetable Oils Association, palm refining capacity in the

country now exceeds production by 30-35%. Oversupply in neighbouring Malaysia is estimated

at 20-25%.

Indonesia refining capacity has surged (MTPA)

Almost 80% of capacity is for CPO refining

Source: Indonesia Vegetable Oils Association Source: Indonesia Vegetable Oils Association

The sharp increase in Indonesian capacity is further pressuring already thin margins in this

commoditised sector. Downstream margins of major refiners (EBIT for Malaysian refiners and

PBT, in case of Wilmar) have shown a clear declining trend since 1Q14. Investors must also

note that Wilmar’s PBT margins in the figure below probably overstate the profitability of its

operations since the company has used interest income to offset the decline in its operating

profits since 2013.

21.3

30.9

39.545.0

0.0

10.0

20.0

30.0

40.0

50.0

2012 2013 2014 2015e

78%

11%

11%Refining &fractionation

Oleochemical

Biodiesel

Persistent overcapacity

leaves little hope for WIL’s

downstream businesses


20 January 2016

10

Downstream business margins of major refiners

Source: Companies

We believe that the current overcapacity is unlikely to be fully absorbed in the next 2-3 years

and has shifted the bargaining power back to upstream players. In our view, this has resulted in

lower supplier discounts for Indonesian refiners than what would be justified by the differential

tax regime.

Stricter requirements under RSPO limiting new plantings

Sustainability in palm oil production has been a key issue for the industry since major buyers,

such as Nestlé (NESN VX, Not Rated) and Unilever (UNA NA, EUR37.06, Buy), suspended

their purchase contracts in 2010 due to allegations of deforestation by major plantations. The

Roundtable on Sustainable Palm Oil (RSPO) is the key non-profit association in the industry

focused on setting standards and certifications for sustainable palm oil production. It was

established in 2004 and currently certifies around 13MT, or c20% of global palm oil production.

During the last few years, pressure has been intense on the industry to avoid deforestation and

expansion on peat lands. The Forest Conversion Moratorium in Indonesia has dramatically slowed

down issuances of new leasehold titles since 2011. The RSPO is prompting most large upstream

companies to suspend new plantings on suspected high carbon stock areas. This is already

resulting in slower new plantings and is likely to be a trend going forward. Below, we highlight the

progress of the companies mentioned in this report (based on company disclosures) on RSPO

standards and the impact those are having on the growth in their respective new plantings.

Wilmar has achieved RSPO certification for 26 of its 46 mills. All of the company’s mills in

Malaysia have been certified and the company is on track to complete RSPO certification

audits for its Indonesian operations by the end of 2016. Wilmar’s new plantings have also

declined substantially from over 10,000 ha/year in 2008-09 to an average of 2,700 ha in the

last five years.

First Resources hasn’t yet achieved RSPO certification and is still in the process of

achieving its first certification by the end of 2016. However, the company has been a RSPO

member since 2008 and adopted a comprehensive policy on sustainable palm oil production

on 1 July 2015. The company’s policy is guided by the RSPO’s principles and criteria and

aims to avoid high carbon stock forests and peat lands for development. The adoption of the

new policy has resulted in a sharp drop of more than 50% y-o-y in new plantings in 2015.

Golden Agri has received RSPO certification for more than 50% of its plantations, including

the smallholder plantations. The group stumbled in 2015 and had to put its new plantings

on hold after The Forest Trust (TFT), a global environmental charity that was helping it meet

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

1Q07

2Q07

3Q07

4Q07

1Q08

2Q08

3Q08

4Q08

1Q09

2Q09

3Q09

4Q09

1Q10

2Q10

3Q10

4Q10

1Q11

2Q11

3Q11

4Q11

1Q12

2Q12

3Q12

4Q12

1Q13

2Q13

3Q13

4Q13

1Q14

2Q14

3Q14

4Q14

1Q15

2Q15

3Q15

IOI EBIT Margin KLK EBIT Margin WIL PBT Margin

11


20 January 2016

its sustainability goals, suspended its operations with one of GGR’s upstream subsidiaries.

The company had to restructure and its sustainability management and implementation

team has since re-engaged with TFT on sustainability goals.

Indofood Agri had achieved RSPO certification for c35% of its CPO output by the end of

2014. 2015 was the fourth year for the group in its sustainability efforts. IFAR plans to

certify all its oil palm estates, including those managed by smallholders to RSPO standards

by 2019. The new plantings for IFAR are on track to slump to less than a 1,000 ha in 2015

from an average of over 10,000 ha in 2010-13.


20 January 2016

12

Biodiesel, India and China to drive demand up by 3.7MT in 2016

Palm oil and soy oil are two of the biggest competitors in the global vegetable oils market worth

cumulatively more than USD110bn in annual sales. Oil palm products (palm oil and palm kernel

oil) and soy oil accounted for market shares of 39% and 28%, respectively, in 2014, but soy

interrupted palm’s run of market share gains in 2013-15. Several factors have been at play in

the last 18-24 months.

A record soybean harvest in the Americas, coupled with continued demand for animal protein

(soybean’s primary product), displaced palm products in China. The sharp fall in crude oil prices

in 4Q14 eliminated palm oil demand for discretionary fuel blending and policy in Indonesia

added to the biodiesel woes. Indian demand also fell sharply from mid-2013 to mid-2014 as its

currency came under pressure following talk of the US Fed tapering quantitative easing.

Stronger demand ahead

CPO’s market share gains, which have been held back by

competition from soy, fall in crude oil prices and Indonesian biodiesel

policy failure in 2014, are likely to resume from 2016

Soy’s saturation in China and strong CPO demand from the Indian

subcontinent would add to the policy-driven recovery in Indonesia’s

biodiesel consumption

We forecast demand to grow at 6.4%y-o-y, above the trend of 5.5%

p.a., in 2016, with the biggest annual jump (3.7MT) since 2008; we

estimate this to happen in a year with shrinking supply

Bearish demand-side factors

have reversed or are in the

process of doing so

Global palm oil consumption

(MT, year-end December) 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e 2016e 2017e

World 40.5 42.7 45.2 47.8 51.7 54.7 55.6 58.5 62.2 64.6 India 5.3 6.6 6.5 6.6 7.8 8.5 8.0 9.6 10.3 11.2 Pakistan 1.5 2.0 2.0 1.9 2.0 2.1 2.2 2.6 2.8 2.9 Bangladesh 0.7 0.9 0.8 0.2 0.5 1.1 1.2 1.3 1.4 1.5

Indian Sub-continent 7.6 9.5 9.3 8.7 10.2 11.8 11.4 13.5 14.5 15.6 Indonesia 4.9 5.1 5.7 6.6 7.3 8.1 8.7 7.9 9.3 9.5 EU-27 5.8 6.5 7.1 6.6 7.2 7.2 7.2 7.5 7.6 7.7 China 5.3 6.4 5.7 5.9 6.3 6.0 5.3 5.9 6.4 6.8 Malaysia 2.6 2.4 2.1 1.8 2.0 2.3 2.8 2.6 2.7 2.8 USA 1.6 1.6 1.5 1.5 1.6 1.7 1.5 1.9 2.0 2.0 Others 12.8 11.3 13.9 16.7 17.1 17.7 18.7 19.2 19.7 20.3

y-o-y % 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e 2016e 2017e

World 5.4 5.9 5.7 8.2 5.9 1.6 5.1 6.4 3.9 Indian Sub-continent 26.0 -2.3 -6.5 17.3 15.3 -3.2 18.7 7.7 7.4 Indonesia 2.9 13.3 15.2 10.9 11.4 6.5 -9.2 17.8 2.0 EU-27 11.3 9.8 -6.6 8.0 0.0 -0.2 4.3 1.6 1.0 China 21.9 -11.6 3.8 7.3 -5.7 -10.9 10.4 8.4 6.1 Malaysia -7.8 -12.9 -13.7 13.9 12.8 23.5 -6.4 3.0 3.0 USA -4.4 -6.2 3.6 3.1 9.8 -9.4 24.7 1.8 1.5 Others -11.5 22.7 20.0 2.7 3.5 5.6 2.5 3.0 3.0


13


20 January 2016

All these bearish factors have either already reversed or are in the process of reversing now, in

our view. We expect palm oil demand to grow above the long-term trend growth of 5.5% p.a. in

2016. This would add 3.7MT to global demand in 2016, particularly supported by:

An increase of 1.4MT in Indonesian demand, primarily driven by an increase of 1.2MT in

demand for biodiesel after the implementation of new policy in July 2014. This revised

policy has linked biodiesel prices to CPO prices instead of depressed crude oil prices. The

government has also established a plantation fund, which is collecting levies on palm oil

exports to subsidise biodiesel uptake in the country.

An increase of 0.5MT in Chinese demand as the displacement of palm by soy is abating.

We believe that China’s consumption of animal protein is now near saturation levels seen in the

EU and the US. This is likely to reduce demand for soymeal as an animal feed and, as a

consequence, the supply of soy oil, which is a by-product of soybean crushing. Soymeal is

the primary product of the crush, accounting for 78% of output. We expect this to leave

palm oil with a sizable share of the vegetable oil market.

An increase of 0.8MT in Indian demand. Indian demand has recovered since the

parliamentary elections in mid-2014. Barring sharp macroeconomic deterioration, we see

little risk to our forecast of continued growth palm oil’s biggest market since India’s per-

capita consumption of vegetable oils is well below global benchmarks, and competition from

soy is relatively benign, given the low requirement for animal protein due to a large

vegetarian population.

2016e demand growth driven by Indonesia, China and India (MT)


In this section, we introduce readers to the global vegetable oils market and palm oil’s position.

Following that, we discuss three of palm oil’s biggest markets and growth opportunities, namely,

biodiesel, China and India. Taken together, these markets account for c40% of market demand

and form the core of our demand thesis.

Market share battle between soy and palm in vegetable oils

Global production of vegetable oil increased at a relatively quick pace of 5-6% p.a. in the

previous decade but has slowed to 2-3% p.a. since 2011. Accelerating demand for food and, to

a lesser extent, biofuels have been the primary drivers of growth.

There is a variety of vegetable oils, but the top three (namely, oil palm, soybean and rapeseed)

dominate the market with an 82% market share.

1.4

0.50.8

1.1

53.5

54.5

55.5

56.5

57.5

58.5

59.5

60.5

61.5

62.5

63.5

2013

Indo

nesi

a

Chi

na

Indi

a

Oth

ers

Indo

nesi

a

Chi

na

Indi

a

Oth

ers

Indo

nesi

a

Chi

na

Indi

a

Oth

ers

2016

e

2014

2015e

2016e

70% of the demand growth in

2016 is likely to be driven by

China, India and Indonesia

Soy oil and palm oil are the

biggest competitors in the

vegetable oil market


20 January 2016

14

Global Vegetable oil production (USDA estimates)

(MT, MY*) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 30.1 33.6 36.0 37.6 41.4 44.5 46.4 49.2 52.6 56.4 59.4 61.4 62.7 Palm Kernel Oil 3.7 4.2 4.4 4.5 5.0 5.3 5.6 5.8 6.2 6.6 7.0 7.3 7.4 Soybean Oil 30.2 32.5 34.8 36.4 37.7 35.9 38.8 41.4 42.7 43.1 45.0 49.0 51.5 Rapeseed Oil 14.2 15.7 17.5 17.2 18.4 20.4 22.3 22.9 23.9 24.5 26.2 26.8 26.2 Sunflower Oil 9.1 9.0 10.5 10.7 10.2 12.0 12.1 12.2 14.6 13.1 15.8 15.1 15.1 Peanut Oil 5.3 5.2 5.1 4.5 4.9 5.1 4.9 5.3 5.3 5.5 5.6 5.5 5.5 Cottonseed Oil 4.1 5.0 4.9 5.1 5.1 4.7 4.6 5.0 5.2 5.2 5.2 5.1 4.5 Olive Oil 3.1 3.0 2.7 2.9 2.8 2.8 3.2 3.3 3.5 2.4 3.1 2.4 2.9 Coconut Oil 3.3 3.4 3.3 3.2 3.5 3.4 3.5 3.7 3.4 3.7 3.4 3.4 3.4 Major Vegetable Oils 103.0 111.8 119.1 122.1 129.1 134.2 141.5 148.7 157.4 160.6 170.7 176.0 179.1 y-o-y % 8.5 6.6 2.5 5.8 3.9 5.4 5.1 5.8 2.0 6.3 3.1 1.8

Market Share (%) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 29.2 30.1 30.2 30.8 32.1 33.1 32.8 33.1 33.4 35.1 34.8 34.9 35.0 Palm Kernel Oil 3.6 3.7 3.7 3.7 3.9 3.9 4.0 3.9 3.9 4.1 4.1 4.1 4.1 Soybean Oil 29.3 29.1 29.2 29.8 29.2 26.8 27.5 27.8 27.2 26.8 26.4 27.8 28.7 Rapeseed Oil 13.8 14.1 14.7 14.0 14.3 15.2 15.8 15.4 15.2 15.3 15.4 15.2 14.6 Sunflower Oil 8.8 8.0 8.8 8.8 7.9 8.9 8.6 8.2 9.3 8.1 9.3 8.6 8.4 Peanut Oil 5.1 4.7 4.2 3.7 3.8 3.8 3.4 3.6 3.4 3.4 3.3 3.1 3.1 Cottonseed Oil 4.0 4.5 4.1 4.2 4.0 3.5 3.2 3.3 3.3 3.2 3.0 2.9 2.5 Olive Oil 3.0 2.7 2.2 2.3 2.2 2.1 2.2 2.2 2.2 1.5 1.8 1.4 1.6 Coconut Oil 3.2 3.1 2.8 2.6 2.7 2.5 2.5 2.5 2.2 2.3 2.0 1.9 1.9

Source: USDA, Thomson Reuters Datastream. 2015 estimates are from USDA. *Marketing year ends in September of the following year i.e. MY07 is YE September 2008.

Crude palm oil (CPO) and palm kernel oil (PKO) are oil palm derivatives and account for the

single biggest share (39%) of global vegetable oil production. Soybean oil and rapeseed oil

follow with shares of 28% and 15%, respectively.

Global vegetable oil production split by crop (USDA, MY*15-16 estimate)

Source: USDA estimates, Thomson Reuters Datastream. Total = 178.2MT. *Marketing year ends in September of the following year i.e. MY07 is YE September 2008.

Regional consumption patterns are heavily influenced by domestic availability of oil sources. For

instance, soy oil dominates in the Americas, which accounts for more than 80% of global

soybean production, and palm oil dominates in its key producing countries in Southeast Asia.

Domestic surpluses are exported to regions with deficit. The producer surplus is most acute in

palm oil and soybean and, consequently, the competition is fiercest among these two.

35%

4%

29%

15%

8%

3%2%2%2%

Palm Oil

Palm Kernel Oil

Soybean Oil

Rapeseed Oil

Sunflower Oil

Peanut Oil

Cottonseed Oil

Olive Oil

Coconut Oil

15


20 January 2016

Global vegetable oil consumption – regional split (USDA, MY*15-16 est.)

Source: USDA estimates, Thomson Reuters Datastream. Total = 178.2MT. *Marketing year ends in September of the following year i.e. MY07 is YE September 2008.

We regard heavily populated regions of China and the Indian subcontinent as the key

battleground in the vegetable oils market. These markets account for 22% and 19% of global

population, respectively, and run a significant deficit in domestic production of vegetable oils.

These markets are also characterised by relatively low per-capita consumption of vegetable oils

and, hence, offer more structural upside to demand in the medium to long term.

Vegetable oil – per capita consumption (kg/capita, 2014)

Source: USDA, Thomson Reuters Datastream, HSBC estimates. Includes biodiesel use.

The per-capita consumption in producer regions – namely the Americas, the EU and Southeast

Asia – is already almost twice as much as the global average, but the aggregate consumption in

India, Bangladesh and Pakistan is c30% below the global average.

Around 42% of the global production of vegetable oils isn’t consumed in producing country but

exported to consumption hot spots in Asia. Palm oil is the most-traded of these commodities

and accounts for c60% of global trade. However, this doesn’t mean that it will necessarily be the

major oil to fill the gap between production and consumption in countries with a deficit. Major

consumers and importers trade in the oilseeds (primarily soybean) and crush them locally into

animal feed (meal) and oil. Unlike oilseeds, oil palms need to be pressed right after harvest into

oil and there isn’t any animal feed by-product.

19%

12%

14%

8%9%

7%

4%

27%

China

India

EU-27

USA

Indonesia & Malaysia

Brazil & Argentina

Pakistan & Bangladesh

Others

0.0

10.0

20.0

30.0

40.0

50.0

60.0

India Pak & B'desh China USA Braz & Argtn EU-27 Indo & M'sia World

Indian subcontinent and

China are key battlegrounds

in vegetable oils competition


20 January 2016

16

Vegetable oils – imports as a percentage of consumption

Source: USDA, Thomson Reuters Datastream

Lower cost has helped palm oil gain market share

CPO is the most affordable of the four mainstream edible oils. As a reminder, oil palm is the

highest oil yielding crop in the world, producing four times more oil per unit of land than the next

most productive oil crop, rapeseed, and its productivity is even more pronounced when

compared with soybean. Among the 10 major oilseeds, oil palm accounted for less than 6% of

global land use for cultivation, but produced almost one-third of global oils and fats output. High

yield and less land translate to a lower cost of production, supporting competitive pricing for

CPO producers.

Vegetable oil yield per ha (tonnes) Vegetable oil market share (%)

Source: Oil World Source: USDA

Rapeseed and sunflower seed oil also tend to trade at a premium to CPO because of their

higher use in biodiesel production, and their geographic concentration in Europe and the

Americas, which have higher spending power, while soybean oil usually trades at prices close

to CPO (still at an average discount of 13% since 2008) as output has been constantly

expanding, driven by growing planted area and farmers’ preference for conducting crop rotation

periodically, which means soybean is sometimes planted without much economic support,

leading to abnormal supply in some years.

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015e

Palm Palm Kernel Soy Sunflower Rapeseed Others

0.00.51.01.52.02.53.03.54.04.5

Soybean Sunflower Rapeseed Oil Palm

30.1 34.9

29.127.8

14.1 15.3

23.0 17.9

0.0

20.0

40.0

60.0

80.0

100.0

2004 2014

Palm oil Palm kernel Soy Rape Others

Palm is the most efficient

vegetable oil crop globally

17


20 January 2016

Palm oil price vs. soy oil price (USD/tonne) Palm oil price discount to soy oil (%)

Source: Thomson Reuters Datastream, HSBC Source: Thomson Reuters Datastream, HSBC

Biodiesel demand to recover after slumping in 2015

Around 15% of global palm oil production is consumed as a raw material for biodiesel.

Approximately half of it is consumed in Southeast Asia and one-third in Europe. The palm oil

feedstock generates approximately one-third of global biodiesel production with rapeseed being

the other major contributor.

CPO consumption for biodiesel

(MT) 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e 2016e 2017e

Indonesia 0.3 0.6 0.3 0.7 1.8 2.2 2.8 3.2 1.6 2.8 2.8 Malaysia 0.1 0.2 0.2 0.1 0.1 0.1 0.3 0.3 0.5 0.6 0.6 Other SEA 0.1 0.4 0.7 0.8 1.1 1.5 1.4 1.4 1.2 1.2 1.2 EU 0.6 0.9 0.9 1.2 1.5 1.9 2.9 3.2 3.3 3.3 3.4 USA 0.3 0.6 0.4 0.6 0.7 0.8 1.3 1.0 1.2 1.2 1.2 Others 0.0 -0.2 1.1 0.8 0.1 0.4 0.4 0.4 0.6 0.6 0.6

Total 1.4 2.5 3.6 4.2 5.2 6.9 9.1 9.6 8.3 9.6 9.8

y-o-y % 78.6 44.0 16.7 23.8 32.7 31.9 5.5 -13.5 15.4 2.0

Source: Oil World, USDA, HSBC estimates

CPO-based biodiesel demand is on track to have slumped by c14% y-o-y in 2015. This would

be the first decline in global production of biodiesel since 2006. Three specific issues have

affected market demand in 2014-15. To start with, a sharp fall in crude oil prices at the end of

2014 hit the discretionary blending demand for biodiesel. 2014-15 have also seen demand from

two major customers run out of growth or decline. While Indonesian biodiesel demand suffered

from a lack of subsidies, European growth petered out due to regulatory changes.

Slump in crude oil has hit the demand for discretionary blending of CPO-based biofuels

Source: Thomson Reuters Datastream, HSBC

0

500

1,000

1,500

2,000

Jan-

08

Jul-0

8

Jan-

09

Jul-0

9

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

Jan-

16

Soy oil Palm oil

-20.0

0.0

20.0

40.0

60.0

Jan-

08

Jul-0

8

Jan-

09

Jul-0

9

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

Jan-

16

CPO Discount/(Premium) to Soy Oil (%)

0

200

400

600

800

1,000

1,200

1,400

1,600

Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Dec-15

CPO (USD/MT) Brent Crude (USD/MT)

Demand for CPO as biodiesel

fell due to low crude prices

and a lack of subsidies in

Indonesia


20 January 2016

18

We believe that European demand is likely to stabilise in 2016 as the market has digested

changes favouring rapeseed-based biodiesel in Germany. However, further growth for CPO-

based biodiesel in this market is likely to be limited by the cap on the use of crop-based

biofuels. Indonesian demand, on the other hand, is likely to recover strongly in 2016 after a

change in policy removed its link to crude oil prices and implemented a viable policy to

subsidise its usage. Given these changes, we think CPO-based biodiesel demand would

recover to 2014 levels in 2016.

15% percentage of palm oil used as biodiesel

Palm-based biodiesel consumption (2014) CPO biodiesel demand to recover in 2016e

Source: Oil World. Total = 9.6MT. Source: USDA, HSBC estimates

European palm-based biodiesel demand likely flat with some downside risk

The EU is the world’s largest biofuels producer and accounts for almost 40% of global

production. Biodiesel represents 80% of the EU’s biofuels market, which is underpinned by the

EU’s Climate Change Package (CCP) adopted in 2009.

CCP requires 10% of the energy used in transport to come from biofuels (renewable energy) by

2020. By the end of 2013, the EU had achieved a level of 5.4%; however, in mid-2014, it limited

the use of crop-based biofuels (made from feed or food raw materials) to a maximum of 7% of

transport energy. This limits the incremental growth of palm-based biodiesel in Europe and the

impact is already visible in slower growth in 2015.

The USDA expects the EU’s biodiesel demand to remain flat until the end of 2016, but the shift

to a greenhouse gas (GHG) reduction mandate in Germany favours biofuels with a higher GHG

saving. This could potentially displace some palm-based biodiesel demand. Reportedly, CPO-

based conventional diesel also does not provide enough winter stability in northern Europe and

this is somewhat of a demand dampener for CPO in that market.

34%

3%

15%

34%

10%4%

Indonesia

Malaysia

Other SEA

EU

USA

Others

32.731.9

5.5

-13.5

15.4

2.0

-20.0

0.0

20.0

40.0

0.0

5.0

10.0

15.0

2012 2013 2014 2015E 2016E 2017e

CPO Bio-diesel demand (MTPA) YoY%, RHS

EU likely to stabilise but

unlikely to deliver much

growth to biodiesel demand

19


20 January 2016

Rapeseed dominates EU biodiesel market Typical greenhouse gas savings for

different biodiesel feedstock

Source: USDA Source: USDA

Indonesian biodiesel demand to help CPO demand recovery in 2016

In March 2015, Indonesia increased its mandatory biodiesel blending rate from 10% to 15% for

transport and industrial uses in 2015. According to current regulation, the blending target will

increase to 20% in 2016 and 30% in 2020. If implemented fully, Indonesia could be consuming

as much as 10MT of CPO for biodiesel by 2020. However, Indonesia has historically

underperformed its rather aggressive mandates for biodiesel adoption.

Indonesian has historically underperformed its biodiesel adoption targets

Indonesia 2010a 2011a 2012a 2013a 2014a

Mandatory target (million litres – ML) 1,076 1,297 1,641 2,017 4,000 Domestic Consumption (ML) 220 258 670 1,048 1,600 % of target achieved 20% 20% 41% 52% 40%

Source: USDA

The divergence between the targeted consumption and actual usage could expand further in

2015. The fall in crude prices at the end of 2014 hasn’t just shrunk Indonesian biodiesel exports

but has hit domestic demand as well. Indonesian biodiesel producers suffered heavy losses in

2014 since the biodiesel reference price was based on Mean of Platts Singapore (MoPS), and

Singapore gasoil (diesel) slumped relative to the CPO price.

Slump in gasoil price (FOB, Singapore) relative to CPO hurt biodiesel producers in 2014


55%29%

8%4%2%2%

Rapeseed

Palm

Soybean

Animal fats

Sunflower

Other

45% 40%58%

36%

62% 56%

Rap

esee

d

Soy

bean

Sun

flow

er

CP

O

CP

O +

met

hane

capt

ure

Cor

n et

hano

l

-300

-200

-100

0

100

200

300

400

500

600

Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16

CPO Px Premium/(Disc) to SG Gasoil

Indonesia has typically

missed its aggressive targets


20 January 2016

20

Recent policy revisions in March 2015 have led to the resetting of the biodiesel reference price

and creation of a fund to subsidise biodiesel consumption. The plantation fund intends to

provide for the gap between the market price of conventional diesel and biodiesel by collecting

a levy of USD50/tonne and USD20-30/tonne on CPO exports and processed palm oil,

respectively. Simultaneously, the new price formula is based on the market price of CPO

(average price of the previous month before VAT) and covers the biodiesel production costs

(USD125/tonne) as well as a 3% margin for producers.

We estimate that the plantation fund, which has been active since the end of July 2015, could

raise as much as USD800m from export levies in one year. Assuming an allocation of

USD600m specifically for biodiesel subsidies, we estimate that the country can subsidise as

much as 2.8MT of CPO feedstock for biodiesel annually. Consequently, we expect a rebound in

Indonesian biodiesel consumption to around this level in 2016.

Indonesia can subsidise almost 3MT p.a. of CPO for biodiesel with new subsidy

2015 2015 USD/tonne IDR/l

CPO Price - Malaysia FOB less Indonesia export levy - (A)

515

Production cost - (B) 100 Profit margin - (C) 25

Biodiesel cost - (D) = (A+B+C) 640 9,847

Brent Crude 375 Refining margin 100

Diesel cost 475 7,308

Biodiesel subsidy required - (D-E) 165 2,539 Biodiesel volume subsidised (ML) 3,255 CPO volume subsidised (MT) 2.8

Source: USDA, HSBC estimates

Indonesia biodiesel CPO use (MT) Malaysia: Biodiesel CPO use (MT)

Source: USDA, HSBC estimates Source: USDA, HSBC estimates

Malaysian biodiesel demand also on a path to recovery after B7 implementation

Much like Indonesia, Malaysia has also lagged in the implementation of its biodiesel mandate.

Malaysia finally implemented a 7% blend of biodiesel called B7 at the start of 2015 after several

delays (the previous mandate was for a 5% blend). The increased blending is likely to increase

the biodiesel usage to 0.5MT in 2015. The Ministry of Plantation Industries and Commodities

launched the B10 mandate (10% blend) in October 2015, which, if implemented, could raise

demand to 0.65MT in 2016 but key auto manufacturers have pushed back on the plan, claiming

that B10 may have an adverse effect on engines and lubrication systems. Consequently, we

assume only a partial implementation of B10 with a 2016 forecast of 0.58MT.

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

2007

2008

2009

2010

2011

2012

2013

2014

2015

E

2016

E

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

2007

2008

2009

2010

2011

2012

2013

2014

2015

E

2016

E

But new subsidies in

Indonesia are likely to drive

strong biodiesel demand

Adoption of new biodiesel

mandate driving demand

higher in Malaysia

21


20 January 2016

Palm pain from soy’s ascent likely to abate in China

According to the USDA, vegetable oil consumption in China has grown at a CAGR of 4.9% in

the last 10 years. The annual growth continues at a pace of 1.0-1.2MT but almost all of the

growth since 2008 has come from major competing oilseed-based edible oils, namely soy oil

and rapeseed oil. Soy oil has captured almost two-thirds of the consumption growth during this

period and rapeseed oil has taken the rest of it. The future growth, in our view, is likely to be

more balanced and possibly skewed towards palm oil, as demand for oilseeds approaches

maturity in the country.

China vegetable oil consumption (MT)

Marketing Year 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 3.6 4.3 5.0 5.1 5.2 5.6 5.9 5.8 5.8 6.4 5.7 5.7 5.8 Palm Kernel Oil 0.2 0.2 0.2 0.4 0.4 0.5 0.4 0.4 0.5 0.6 0.5 0.6 0.7 Soybean Oil 7.2 7.2 7.6 8.7 9.7 9.5 10.0 11.4 12.0 12.5 13.7 14.2 15.2 Rapeseed Oil 4.4 4.8 4.5 4.3 4.1 4.9 5.6 6.0 6.3 6.3 6.8 7.3 7.6 Sunflower Oil 0.3 0.3 0.4 0.3 0.1 0.4 0.5 0.4 0.5 0.8 1.0 1.0 0.8 Peanut Oil 2.1 2.2 2.3 2.0 2.0 2.2 2.2 2.4 2.5 2.7 2.7 2.7 2.7 Cottonseed Oil 1.1 1.4 1.3 1.5 1.6 1.6 1.5 1.4 1.5 1.6 1.5 1.4 1.1 Major Vegetable Oils 18.8 20.4 21.4 22.4 23.2 24.6 26.2 27.7 29.1 31.0 31.8 32.8 33.9

Market share (%) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 19.0 21.2 23.3 22.9 22.5 22.8 22.6 20.9 20.1 20.6 17.8 17.5 17.0 Palm Kernel Oil 0.8 1.1 1.2 1.7 1.6 1.8 1.7 1.5 1.6 2.0 1.6 1.8 1.9 Soybean Oil 38.1 35.3 35.6 38.7 41.8 38.5 38.3 41.1 41.4 40.5 43.0 43.2 45.0 Rapeseed Oil 23.2 23.3 21.3 19.4 17.8 19.7 21.5 21.5 21.5 20.4 21.2 22.1 22.3 Sunflower Oil 1.8 1.4 1.8 1.5 0.6 1.8 1.9 1.3 1.6 2.7 3.2 3.0 2.4 Peanut Oil 11.3 11.0 10.6 8.9 8.7 8.8 8.4 8.6 8.7 8.7 8.6 8.3 8.0 Cottonseed Oil 5.9 6.7 6.2 6.9 7.0 6.5 5.6 5.1 5.1 5.1 4.7 4.2 3.4

Source: USDA, Thomson Reuters Datastream. Marketing year ends in September of the following year i.e. MY07 is YE September 2008.

The ascent of oilseeds in China is closely tied to the growing demand for animal protein in the

country. Oilseeds are crushed to produce animal feed (oilseed meal); edible oils are a by-

product of this process. Meal and oil account for 65-85% and 18-35% of the crush, respectively,

depending on the input oilseed. Soybean crush, the biggest contributor of vegetable oils, yields

only 18% of oil and 78% of meal by weight.

China oilseed crush volumes (MT)


A high meal yield (78%) in addition to high protein content (48%) has made soymeal the animal

protein of choice in China. This has driven soybean crush volumes at a CAGR of 9.4% during

last ten years. Soy oil consumption, at the same time, has grown at a CAGR of 7%.

0.0

20.0

40.0

60.0

80.0

100.0

120.0

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Soybean Rapeseed Cottonseed Sunflower seed

Soy oversupply has crowded

out palm oil; this dynamic is

now likely to reverse

Soy is the animal protein of

choice due to its high feed

and protein content


20 January 2016

22

China animal protein consumption per kg of meat produced


The animal protein intake per kilogram of meat production has now reached a level that is in line

with that of the US and the EU, and it’s questionable whether the rapid growth in oilseed

consumption of previous decade would continue.

Given the decade-long gains in animal protein consumption, China’s soymeal requirements are

likely to grow at a more moderate pace and in line with its meat consumption, in our view.

Consequently, we expect the production growth of soy oil to slow down to 2-3% p.a. instead of

the 7-8% p.a. achieved in the last 10 years. That would imply annual growth of around 0.3MT in

soy oil consumption out of a potential 1.0-1.2MT of vegetable oil consumption growth. It would

leave an annual deficit of around 0.5-0.6MT to be plugged by palm oil, in our view.

0.20

0.25

0.30

0.35

0.40

0.45

0.50

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

China US EU-27 World

But, animal protein

consumption is now

approaching saturation

China meat production and animal feed consumption (MT)

Marketing Year 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Swine 42.4 43.4 45.6 46.5 42.9 46.2 48.9 50.7 50.6 53.4 54.9 56.7 56.6 y-o-y % 2.4 4.9 2.1 -7.8 7.8 5.9 3.7 -0.2 5.6 2.8 3.2 -0.2 Beef 5.4 5.6 5.7 5.8 6.1 6.1 6.4 6.5 6.5 6.6 6.7 6.9 6.8 y-o-y % 3.3 1.4 1.5 6.4 0.0 3.6 2.8 -0.9 2.3 1.6 2.4 -0.9 Poultry 10.0 9.9 10.1 10.4 11.5 12.0 12.2 12.5 13.1 13.6 13.2 12.9 12.9 y-o-y % -1.0 1.7 2.9 10.2 4.8 2.0 2.0 4.5 4.1 -2.7 -2.2 -0.3 Total 57.8 59.0 61.3 62.7 60.5 64.3 67.5 69.7 70.1 73.6 74.9 76.5 76.3 y-o-y % 1.9 4.0 2.2 -3.5 6.4 4.9 3.3 0.6 5.0 1.7 2.2 -0.3 Animal Feed consumption 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Soybean meal 19.5 23.4 27.8 27.6 30.8 31.7 37.5 43.4 47.4 50.1 52.5 57.5 62.1 Rapeseed meal 7.1 8.1 8.2 7.2 6.9 8.3 9.2 8.9 10.1 10.7 11.6 11.5 11.4 Cottonseed meal 3.3 4.0 3.9 4.6 4.8 4.7 4.3 4.2 4.3 4.6 4.4 4.2 3.3 Sunflower seed meal 0.4 0.4 0.6 0.4 0.2 0.5 0.5 0.5 0.5 0.7 0.7 0.7 0.6 Total Oilseed meal 30.3 35.9 40.5 39.8 42.7 45.2 51.5 57.0 62.4 66.1 69.3 73.8 77.4 Y-o-Y % 18.5 12.7 -1.7 7.3 5.7 14.0 10.7 9.5 5.9 4.9 6.5 4.8

Source: USDA, Thomson Reuters Datastream. Marketing year ends in September of the following year i.e. MY07 is YE September 2008.

23


20 January 2016

Soy imports still strong as they displace higher cost domestic production

China soy crush margin has been under pressure since 2Q15

Source: Thomson Reuters Datastream, HSBC Source: Thomson Reuters Datastream, Dalian Commodity Exchange, HSBC

We would highlight the recent recovery in Chinese monthly imports as a harbinger of impending

reversal in Chinese demand. However, investors must also pay attention to Chinese soybean

imports as well as to domestic crush margins to feel the pulse of the market.

Chinese palm oil imports have rebounded…

…and we expect Chinese palm oil imports (MT) to reverse 2014 losses in 2015-17e

Source: Thomson Reuters Datastream, HSBC Source: Thomson Reuters Datastream, HSBC estimates

Any seemingly structural decline in import growth and crush margins of soybean amid an

otherwise stable macro-environment should be considered as a sign of oilseed demand

reaching maturity in the country. This would be a positive for palm oil.

In addition, investors must note that any of the following, if realised, would also be positive for

palm oil:

Any decline in meat consumption due to an increase in pork prices

A substitution of oilseed meal by a non-oilseed feed like corn meal or distiller’s dried grain

with solubles (DDGS), a by-product of corn-based ethanol, or

A decline in the production of oilseeds

-10.0

0.0

10.0

20.0

30.0

40.0

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

China Soybean import (trailing 12m YoY%)-40

-20

0

20

40

60

Q3

2010

Q4

2010

Q1

2011

Q2

2011

Q3

2011

Q4

2011

Q1

2012

Q2

2012

Q3

2012

Q4

2012

Q1

2013

Q2

2013

Q3

2013

Q4

2013

Q1

2014

Q2

2014

Q3

2014

Q4

2014

Q1

2015

Q2

2015

Q3

2015

Q4

2015

Ch. Crush Margin (USD/tonne)

-30.0

-20.0

-10.0

0.0

10.0

20.0

30.0

40.0

Dec

-07

Jul-0

8

Feb

-09

Sep

-09

Apr

-10

Nov

-10

Jun-

11

Jan-

12

Aug

-12

Mar

-13

Oct

-13

May

-14

Dec

-14

Jul-1

5

China Palm oil imports Trailing 12-m YoY%

5.3

6.45.7 5.9

6.3 6.05.3

5.96.4

6.8

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

2008

2009

2010

2011

2012

2013

2014

2015

e

2016

E

2017

e

China’s CPO imports have

reversed 2014 decline


20 January 2016

24

China pork rump price (RMB/kg) Annual meat consumption per capita (kg,

2014)

Source: Thomson Reuters Datastream, HSBC Source: Thomson Reuters Datastream, USDA, HSBC

India remains palm oil’s single biggest opportunity

According to the USDA, vegetable oil consumption in India has grown at a CAGR of 5.7% in the

last 10 years. In recent years, the annual growth has picked up pace and risen above the long-

term annual average of around 0.8MT per annum. India is the biggest importer of vegetable oils

and the largest consumer of palm oil in the world. Vegetable oil imports are on track to rise to

almost 70% of domestic consumption of 22MT in 2015-16. Furthermore, contrary to what

happened in China, palm oil has captured the lion’s share of the growth in vegetable oil

consumption in India since 2008. Soy oil, the primary competitor, has accounted for only one-

third of the growth, while palm oil has taken over a 60% share.

India vegetable oil consumption

(MT) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 3.6 3.4 3.1 3.7 5.1 6.2 6.4 7.1 7.5 8.3 8.4 9.0 9.9 Palm Kernel Oil 0.1 0.1 0.1 0.1 0.1 0.2 0.2 0.2 0.2 0.3 0.3 0.2 0.2 Soybean Oil 1.9 2.7 2.8 2.7 2.3 2.3 2.8 2.6 2.8 3.0 3.3 4.1 4.7 Rapeseed Oil 2.1 2.1 2.3 2.1 2.0 2.1 2.1 2.2 2.3 2.3 2.5 2.5 2.4 Sunflower Oil 0.6 0.4 0.6 0.6 0.4 0.7 0.9 1.0 1.3 1.2 1.7 1.7 1.7 Peanut Oil 1.8 1.7 1.6 1.4 1.6 1.5 1.3 1.3 1.2 1.2 1.2 1.1 1.0 Cottonseed Oil 0.6 0.8 0.9 0.9 1.1 1.0 1.1 1.1 1.2 1.2 1.3 1.3 1.3 Coconut Oil 0.5 0.5 0.4 0.4 0.4 0.4 0.4 0.4 0.4 0.4 0.4 0.4 0.4 Major Vegetable Oils 11.3 11.7 11.9 12.0 13.0 14.5 15.3 15.9 16.8 17.9 19.1 20.3 21.7

Market share (%) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

Palm Oil 32.0 29.2 26.2 30.6 39.1 43.0 42.1 44.6 44.5 46.2 44.1 44.3 45.8 Palm Kernel Oil 1.0 0.9 1.0 1.1 1.1 1.4 1.5 1.3 1.2 1.7 1.3 1.2 1.1 Soybean Oil 17.3 23.4 23.5 22.5 18.0 16.0 18.4 16.4 16.3 16.5 17.3 19.9 21.7 Rapeseed Oil 18.9 17.7 19.7 17.8 15.2 14.5 13.7 14.1 13.6 13.0 13.1 12.3 11.0 Sunflower Oil 5.6 3.4 5.3 5.0 3.1 5.1 6.0 6.2 7.6 6.6 8.8 8.2 7.8 Peanut Oil 15.7 14.8 13.4 11.9 12.2 10.0 8.6 7.9 6.9 6.6 6.2 5.3 4.7 Cottonseed Oil 5.4 6.6 7.5 7.9 8.1 7.2 6.9 7.0 7.3 6.9 6.8 6.5 6.0 Coconut Oil 4.2 3.9 3.4 3.2 3.3 2.9 2.7 2.5 2.5 2.3 2.3 2.2 2.0

Source: USDA, Thomson Reuters Datastream, HSBC estimates

Palm oil now makes up almost half of the vegetable oil consumed in the country and, we

believe, India represents the single biggest opportunity for the commodity over the next decade.

Relatively low per-capita consumption of vegetable oils is only part of the reason for the

potential upside. Surprising as it may seem, we think vegetarianism is also a key underlying

driver of its continued success.

Indian consumption of meat is less than 5kg/capita compared with 57kg/capita in China and over

110kg/capita in the US. Although demand for soybean meal as animal feed has been growing in

India, a large vegetarian population caps the uptake of this source of protein for animals. This, in

turn, limits the need to crush soybeans into meal and soy oil. India, as a result, doesn’t face the

15

20

25

30

35

Feb

-09

Aug

-09

Feb

-10

Aug

-10

Feb

-11

Aug

-11

Feb

-12

Aug

-12

Feb

-13

Aug

-13

Feb

-14

Aug

-14

Feb

-15

Aug

-15

China Pork rump price (RMB/Kg)

111.6

97.6

78.1

62.4

56.6

4.6

0.0 20.0 40.0 60.0 80.0 100.0 120.0

US

Brazil

EU-27

Russia

China

India

India is the biggest consumer

of palm oil and, so far, its

biggest growth engine

Lack of animal feed demand

and higher soy oil price limits

its attractiveness in India

25


20 January 2016

animal feed-driven oversupply of soy oil seen in China. In fact, India produces soy meal in surplus,

which it exports, but faces a deficit in soy oil, which it has to make up for through imports.

Surplus production (or deficit) of soymeal and soy oil in India (MT)

Source: USDA

One can argue that India may well continue on this path of importing soybean, crushing it

domestically and exporting the meal after consuming the residual soy oil. However, its

competitiveness relative to soybean producers and traditional exporters of meal (Brazil, the US,

Argentina) is questionable in this trade.

This doesn’t mean that consumption of soy oil isn’t growing but only that the lack of meat

consumption lowers the threat to palm oil from these soybeans, which the need for animal feed

would have created. In other words, soy oil isn’t the default choice among the vegetable oils

available in the country and, unlike in China, the market is a level playing field.

Palm oil’s discount to soy boosts its attractiveness in India (USD/tonne)


Two factors are critical to watch in palm oil’s head-on battle with soy oil – its price discount and

its easier availability in the import-export market relative to soy oil. It’s worth highlighting that

palm oil has traded at a discount of 13% to soy oil since start of 2008.

The importance of palm’s cost competitiveness in India can’t be overstated. The Solvent

Extractor’s Association of India (SEAI), a local Industry organisation, has often claimed that

India is the “dumping ground” for cheaper palm oil and that this has increased country’s reliance

on imported oil to 70%.

Subsequent industry lobbying to protect domestic oilseeds production has encouraged the

Indian government to increase import duty on crude palm oil and refined grades to 7.5% and

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Soy meal Soy oil

0

200

400

600

800

1,000

1,200

1,400

1,600

Jan-

08

Jul-0

8

Jan-

09

Jul-0

9

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

Jan-

16

Soy oil Palm oil

India imports soy oil but

exports soy meal; this trade

has its limits

CPO’s price discount and

easier availability are key

competitive advantages


20 January 2016

26

15% from 2.5% and 10%, respectively, in December 2014. The government hiked the duty yet

again on CPO and refined palm oil to 12.5%and 20%, respectively, in September 2015. While

it’s too early to confirm the impact of the hike, so far the effect has been rather muted with

continuation of robust growth in country’s palm oil imports.

Furthermore, annual soy oil imports have remained range bound between 8-10MT over the last

decade and share of cross-border trade as a proportion of consumption has fallen to low-20s

(%) from high-20s (%) a decade back.

Annual soy oil trade has been range bound between 8MT and 10MT


Both a lower price and higher availability have been instrumental in growing palm oil’s share of

consumption in India over the years, but bumper soybean production and a lower premium

helped soy oil claw back some of the losses in 2014. We expect this trend to continue.

Palm oil imports have recovered in 2015… …as soy oil growth has slowed

Source: Bloomberg, SEAI, HSBC Source: Bloomberg, SEAI, HSBC

We expect India to contribute 0.7-0.9MT of palm oil demand annually

Source: Bloomberg, SEAI, HSBC

6,000

7,200

8,400

9,600

10,800

12,000

15.0

18.0

21.0

24.0

27.0

30.0

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

Soy oil imports as % of consumption (LHS) Soy oil imports ('000 tonnes)

-20

0

20

40

60

80

Dec

-07

Jul-0

8

Feb

-09

Sep

-09

Apr

-10

Nov

-10

Jun-

11

Jan-

12

Aug

-12

Mar

-13

Oct

-13

May

-14

Dec

-14

Jul-1

5

India Palm oil imports Trailing 12-m YoY%

-50.0

0.0

50.0

100.0

Dec

-10

Apr

-11

Aug

-11

Dec

-11

Apr

-12

Aug

-12

Dec

-12

Apr

-13

Aug

-13

Dec

-13

Apr

-14

Aug

-14

Dec

-14

Apr

-15

Aug

-15

Dec

-15

India Soy oil imports trailing 12-m YoY%

5.3

6.6 6.5 6.6

7.88.5

8.0

9.610.3

11.2

0.0

2.0

4.0

6.0

8.0

10.0

12.0

2008 2009 2010 2011 2012 2013 2014 2015e 2016E 2017e

27


20 January 2016

Supply to shrink on El Niño next year

84% of world’s palm oil output is based in Indonesia and Malaysia and almost 80% of this

production is exported. Thus, c92% of the world’s seaborne-traded supply comes from these

two countries. The strong growth in Indonesian acreage over the last seven years has given the

sector the potential to deliver palm oil production growth of 3-4MT annually for the next 2-3

years. However, weather is an external influence that threatens to derail production in 2016.

Strong El Niño conditions have prevailed for seven months and most indicators suggest this is

the strongest El Niño in 17 years. The associated dryness in Indonesia and Malaysia is likely to

cause a drop in FFB yields with the impact being relatively severe on older plantations. We

expect Indonesian output to shrink by 1MT in 2016 and CPO production to decline by 1% y-o-y.

Historically, El Niño events have supported CPO prices, but we suspect a more pronounced

effect this time since the CPO production shortfall is unlikely to be filled easily by other

vegetable oils or excess inventory of 3MT or so at two of its biggest producers.

Rapeseed and sunflower farmers have started responding to low prices by cutting output.

Soybean, the biggest oilseed in the vegetable oils market, hasn’t responded in the same fashion

yet, but the downside risks to its output are increasing. Even though the USDA still expects US

soybean output (one-third of global) to stay steady, there is no doubt that farmers are being hurt

by a strong USD and low prices. Their Brazilian peers, shielded by FX depreciation, plan to

increase soybean acreage, but El Niño’s effect on North/Northeast Brazil may not allow them to

do so. In addition, a La Niña follow-up to El Niño (40% possibility historically) creates more

downside risk for US soybean output.

Supply crunch taking shape

Excluding weather effects, the palm oil market can manage a “steady-

state” production growth of 4-6% p.a. over the next 2-3 years

But the current El Niño, the strongest since 1997-98, is likely to

reduce palm output in 2016; a La Niña follow-up can cut soy output

Downside risks to production of competing oilseeds are also either

visible (rape and sunflower) or rising (soybean)

Palm oil production

(MT) 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e 2016e 2017e

Indonesia 18.0 20.7 22.0 23.3 25.1 28.6 30.1 32.9 31.9 34.4 Malaysia 17.7 17.6 17.0 18.9 18.8 19.2 19.7 20.0 20.1 20.5 Rest of the world 8.0 7.6 9.5 9.5 11.6 10.9 11.1 9.5 9.6 9.7 World 43.7 45.9 48.5 51.7 55.5 58.6 60.9 62.4 61.6 64.7 y-o-y % 5.0 5.7 6.6 7.2 5.7 3.9 2.4 -1.2 4.9

Source: USDA, Bloomberg, Thomson Reuters Datastream, HSBC estimates. *Approx. one-third in Thailand, one-third in W. Africa.


20 January 2016

28

CPO market well supplied, unless weather effects change this…

Indonesia and Malaysia account for almost 85% of the global production and more than 90% of

the trade since palm production is largely based around the equatorial belt. Production has

grown at a CAGR of 6.2% over the last decade with 70% of the production growth coming from

Indonesia alone. The USDA estimates a 6% y-o-y growth in world production during next

marketing year (ending September 2016), but weather patterns are likely to be a key

determining factor. We will return to this topic, but let’s highlight some structural trends on

production growth first.

Typical FFB Yield (tonne/ha) vs. age (years)

Indonesia has added most of the output in recent years

Source: HSBC Source: USDA

Palm oil production – USDA estimates

(’000 tonnes, MY*) 2003a 2004a 2005a 2006a 2007a 2008a 2009a 2010a 2011a 2012a 2013a 2014a 2015e

World 30,105 33,630 36,011 37,581 41,418 44,450 46,372 49,239 52,582 56,422 59,383 61,432 62,675 Indonesia 11,970 13,560 15,560 16,600 18,000 20,500 22,000 23,600 26,200 28,500 30,500 33,000 33,000 Malaysia 13,420 15,194 15,485 15,290 17,567 17,259 17,763 18,211 18,202 19,321 20,161 19,879 20,500 Thailand 840 820 784 1,170 1,050 1,540 1,287 1,832 1,892 2,135 2,000 1,800 2,200 W. Africa 1,593 1,628 1,626 1,716 1,754 1,879 1,935 2,162 2,221 2,202 2,244 2,228 2,233 LatAm 1,430 1,546 1,662 1,792 1,966 2,092 2,174 2,160 2,578 2,700 2,826 2,833 2,938 Others 852 882 894 1,013 1,081 1,180 1,213 1,274 1,489 1,564 1,652 1,692 1,804

% Contribution 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Indonesia 39.8 40.3 43.2 44.2 43.5 46.1 47.4 47.9 49.8 50.5 51.4 53.7 52.7 Malaysia 44.6 45.2 43.0 40.7 42.4 38.8 38.3 37.0 34.6 34.2 34.0 32.4 32.7 Thailand 2.8 2.4 2.2 3.1 2.5 3.5 2.8 3.7 3.6 3.8 3.4 2.9 3.5 W. Africa 5.3 4.8 4.5 4.6 4.2 4.2 4.2 4.4 4.2 3.9 3.8 3.6 3.6 LatAm 4.8 4.6 4.6 4.8 4.7 4.7 4.7 4.4 4.9 4.8 4.8 4.6 4.7 Others 2.8 2.6 2.5 2.7 2.6 2.7 2.6 2.6 2.8 2.8 2.8 2.8 2.9

% y-o-y 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

World 11.7 7.1 4.4 10.2 7.3 4.3 6.2 6.8 7.3 5.2 3.5 2.0 Indonesia 13.3 14.7 6.7 8.4 13.9 7.3 7.3 11.0 8.8 7.0 8.2 0.0 Malaysia 13.2 1.9 -1.3 14.9 -1.8 2.9 2.5 0.0 6.1 4.3 -1.4 3.1 Thailand -2.4 -4.4 49.2 -10.3 46.7 -16.4 42.3 3.3 12.8 -6.3 -10.0 22.2 W. Africa 2.2 -0.1 5.5 2.2 7.1 3.0 11.7 2.7 -0.9 1.9 -0.7 0.2 LatAm 8.1 7.5 7.8 9.7 6.4 3.9 -0.6 19.4 4.7 4.7 0.2 3.7 Others 3.5 1.4 13.3 6.7 9.2 2.8 5.0 16.9 5.0 5.6 2.4 6.6

Source: USDA estimates. *2015 refers to Marketing Year starting October 2015.

Indonesia has aggressively increased its planted area during 2007-11 when CPO prices

averaged around USD850/tonne and the perception of future returns was good. New plantings

have slowed with lower prices. For instance, the Indonesia Palm Oil Commission highlights that

new plantings averaged 560,000 ha during 2007-11 but declined c30% to 400,000 ha during

2012-14. Since palm plantations typically take around seven years to mature and the

plantations are just approaching peak production, the new Indonesian plantings in 2007-14 are

likely capable of generating an output growth in the range of 5-7% p.a. (4-6% p.a. for the market

as a whole) over the next 2-3 years (Indonesia has 10-11m ha of oil palm plantations).

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Indonesia is the primary

driver of supply growth…

29


20 January 2016

Given the age profile of plantations, there is little doubt that Indonesia would remain the primary

driver of production over the next few years. However, the new plantings and medium-term

growth are likely to slow down as producers of the marginal export barrel react to currently low

prices. The planting cost of USD6,000/ha spread over three years, annual cash cost of

IDR4,000/kg of CPO production, a USD50/tonne export levy and a cost of capital of 11% imply

a payback period of almost nine years at the 2015 average CPO price of USD566/tonne (FOB

Malaysia). The NPV-breakeven price of USD530/tonne (FOB Malaysia) is only 8% lower than

the 2015 average.

El Niño is likely to cut palm oil production in 2016

Southern Oscillation Index (SOI) – strong negative readings correspond to El Niño

Source: Australian Bureau of Meteorology

Weather is one of the biggest causes of volatility in vegetable oil prices through its effects on

production. An El Niño event typically creates dry weather in the western Pacific (Indonesia and

Malaysia) as well as North and Northeast Brazil, while a La Niña event tends to create drier

weather in corn and soybean producing regions of the Americas, particularly the US Midwest.

The first lowers palm oil output (typically with a lag) and, to a lesser extent, soybean output from

Brazil, and the second lowers the soybean output, particularly from the US.

According to the Australian Bureau of Meteorology (ABOM), the current El Niño continues to be

strong well into its seventh month and is unlikely to ease before early 2016. The ABOM notes

that the current El Niño is comparable to the events in 1997-98 and 1982-83 and, hence, the

impact will likely be more significant than the last two episodes in 2006-07 and 2009-10. It’s

worth highlighting that both the Oceanic Nino Index (ONI) and Southern Oscillation Index (SOI,

see below) have been at their most extreme levels in 17 years. El Niño is generally supportive of CPO prices

START END MONTHS ________ CPO Price Chg. _________ Median SOI During El Niño 12M after the end

Mar-91 Apr-92 14 15.7% -1.2% -12.9 Apr-93 Oct-93 7 -10.6% 80.2% -13.5 Mar-94 Apr-95 14 46.9% -8.6% -12.3 Apr-97 Mar-98 12 19.8% -31.8% -18.3 Mar-02 Jan-03 11 40.8% 7.2% -7.4 May-06 Dec-06 8 43.2% 67.2% -7.2 May-09 Mar-10 11 2.3% 52.4% -6.7

Source: Australian Bureau of Meteorology, Thomson Reuters Datastream

-30.0

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…but new plantings to slow

in response to low prices


20 January 2016

30

El Niño events are typically supportive of palm oil prices since the associated dryness it causes

in Southeast Asia hurts crop yields. Indonesian production and older plantations are typically

more affected than the younger ones. Since Indonesia’s plantations are now more mature than

during the previous mild El Niño event in 2009-10, we expect the current severe El Niño to cut

production in 1H16. For 2016, we expect Indonesian output to fall by 1MT to slightly less than

32MT instead of growing by 3MT, if weather conditions would have been conducive.

El Niño events have typically resulted in CPO price rallies

Source: Australian Bureau of Meteorology, Thomson Reuters Datastream

Oilseed supply to tighten gradually through 2016…

The long lifecycle of oil palm means that it can’t respond to declining prices in the short-term to

medium term. However, producers of sunflower and rapeseed oil already seem to be doing so.

Production of the three major oilseeds (namely soybean, rapeseed and sunflower seed) has

grown by 27-33MT (c8%) annually in each of the last three years, but the USDA expects it to

shrink for the first time since the 2011-12 marketing year (ending September 2012).

Recall that soybean prices hit their peak during the previous decline in production during MY11-

12. That fall in production was triggered by a drought in the US and Brazil, with added pressure

from a credit crisis in Argentina. Much like the last time, we believe a supply-side response

would support oilseed and palm oil prices going forward.

USDA expects production of the top three oilseeds to decline in MY15-16 (y-o-y %)

Source: USDA estimates. Year 2015 refers to Marketing Year starting October 2015.

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1.5

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Rapeseed and sunflower

seed supply is shrinking…

31


20 January 2016

The USDA continues to forecast steady production of soybean, the biggest of the oilseeds, but

it does acknowledge the pressure on profitability of US soybean farmers from the depreciation

of main competitor currencies, such as the BRL. The sharp fall in BRL versus USD has

sustained BRL-denominated soybean price near its cycle-highs, while the USD-denominated

price lingers near cycle-lows. Furthermore, the USDA estimates that the total cost of production

of US soybean is around USD375/tonne. Even after excluding non-cash depreciation, the

production cost is estimated to be around USD290/tonne, which isn’t far from the 2015 average

price of USD344/tonne. The recent 30%-plus depreciation in the ARS has further boosted the

competitiveness of South American soybean relative to its northern neighbour’s produce.

US soybean prices (USD/tonne) hit their peak when production declined in MY11-12


Given the lower cash profit cushion, high global inventories (stocks-to-crush ratio) and weaker

competitive positioning in the export market, a price-supportive decline in 2016 US output is

likely, in our view. However, so far, the USDA only expects a 7% y-o-y fall in US soybean

exports on a 1% y-o-y increase in its production in MY15-16 (MY = Marketing Year).

The threat to soybean prices from the policies of the new Argentinian administration led by

President Mauricio Macri has receded since the country will cut export taxes in phases. Mr. Macri

plans to cut the soybean export tax by 5% each year from 35% currently. We believe a phased

removal limits the threat of massive destocking of Argentinian soybean (c40% of global stock).

Consequently, the chance of aggressive price pressure on soybean and its derivatives has

receded somewhat. Moreover, it’s worth noting that El Niño concerns are flaring up in Brazil. The

USDA maintains its forecast of an increase in harvested area and production in Brazil but noted

that planting progress after first two months of the planting season (starts 15 September) in Brazil

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USD/Ton (RHS) BRL/Ton

Stronger USD is pressuring

US soybean exports…

…weather and economic

risks to South American

soybean exports next year

Soybean stocks-to-crush ratio (months); inventories are highest in Argentina

Source: USDA estimates. 2015 refers to Marketing Year starting October 2015 for the US, February 2016 for Brazil/Argentina.

2.8x

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2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015e

Stock-to-Crush Ratio (Soybean, months)


20 January 2016

32

is running at 60%, well below its five-year average of 70%. Brazilian farmers are reportedly

uneasy about dry conditions, particularly in the north and northeast of the country.

The political and economic situation in Brazil also presents risks. The USDA reports that

independent truck drivers seeking lower diesel prices and minimum freight rates went on a

strike for the second time in 2015 on 9 November 2015. This affected food distribution in

southern Brazil and, if disruptions like these continue to happen, then these would be a

downside risk to soybean exports.

Having recognised the economic risk to the US soybean output as well as the weather and

political risks to South American output, we would caution that it’s unlikely to get much visibility

on production trends until late 1Q16. Thus, a potential lift-off in soybean prices appears unlikely

before the second quarter of 2016 with the full impact only in second half of 2016, when clarity

develops on US output trends.

It is true that liquidation of near-record inventories, particularly from Argentina, is likely to sustain

market supply even if the output disappoints. But, we believe the price reaction of declining

inventories and production would be bullish. Historical precedence suggests that, much like

2011, a price rally can happen despite high stocks as long as stock depletion begins in earnest

and heads in the right direction through 2016.

…La Niña could accelerate oilseed production decline

La Niña typically follows an El Niño event with a three- to six-month lag

Source: Australian Bureau of Meteorology

Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

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We expect stronger soy oil

prices in 2H16

33


20 January 2016

It’s probably too early to speculate whether a La Niña event would follow the current El Niño,

but it’s worth noting that La Niña has frequently followed El Niño as the weather pendulum

swings from one extreme to the other (historically, 40% possibility of La Niña, 50% of a normal

year). A La Niña event has followed four of the last five El Niño events in last 20 years with a lag

of 3-6 months. If the pattern repeats itself, then subsequent dryness across the US Midwest

could potentially curb US soybean output in the autumn of 2016. It would certainly impact the

South American planting which start in mid-September and likely have an impact on 2017

soybean production.

Record inventories an overhang but shouldn’t be

Despite the projected decline in palm oil output and increasing economic, political and weather-

related risks to oilseed production and exports, record inventories are an overhang for the

market. Indonesian palm oil inventories are reported to be around 3MT and Malaysian

inventories had risen to a record of 2.9MT in Nov-2015. Although, current inventories are nearly

40-50% higher than normal, this translates to only around 2-3MT of supply in surplus stocks,

which could be easily digested by our demand growth projection of nearly 4MT in 2016. In fact,

when combined with the projected fall in output next year, we would even argue that the

inventory isn’t even enough to ensure interruption-free supply. More importantly, we think that a

fall in inventories is likely to act as a catalyst for prices to rise over the course of next year.

Malaysian palm oil inventories (inverted) vs. palm oil prices

Source: Bloomberg, MPOB

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Malaysia palm oil inventory (mn tonnes) Crude palm oil price (USD/Tonne, RHS)


20 January 2016

34

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35


20 January 2016

Companies


20 January 2016

36

Steady but fragile

Unlike the rest of our ASEAN plantations coverage, Wilmar is primarily a downstream player with

dominant palm refining and soy crushing businesses across Southeast Asia and China. We

expect margins in tropical oils (palm refining) to be stable-to-marginally better due to a pick-up

in biodiesel demand as well as the CPO export levy (lower feedstock prices) in Indonesia.

Margins in the oilseed business have recovered from cycle-lows in 2012 but are unlikely to rise

above current cycle-highs, given the 70-80% excess supply in China’s soy crush market.

Even as WIL’s core operations improve, RoE is likely to remain depressed in a range of 7-8%

as these improvements are offset by the reversal of the carry trade, which was a key contributor

to the company’s earnings in the last three years. Since 2012, Wilmar has generated net

interest income despite its high leverage. The profits from investing in high-yielding RMB assets

with low-cost USD debt are now shrinking as USD rates rise and RMB rates fall. Given WIL’s

low-growth, low-return, high-leverage profile, we initiate on it with a Hold rating.

Wilmar International (WIL SP)

Wilmar’s downstream businesses in CPO refining and soy crushing

suffer from persistent overcapacity in China and Indonesia

Even though core operations are likely to improve marginally, the

unwinding of the carry trade keeps RoE stuck at 7-8% in 2016-17e

Rerating unlikely without sustainable improvement in cash flow

generation; initiate at Hold with a target price of SGD2.58, based on

12.2x 2016e EV/EBITDA, 1SD below the 5-year average

WIL: Key operating metrics

2012a 2013a 2014a 2015e 2016e 2017e

Mature oil palm (ha) 236,470 224,701 213,902 212,767 217,083 221,369 y-o-y % 9.2 -5.0 -4.8 -0.5 2.0 2.0 CPO production (MT) 1.91 1.85 1.91 1.92 1.68 1.72 y-o-y % 7.3 -3.2 3.3 0.3 -12.1 2.3 Sales Volume (MT) 51.2 56.4 59.5 66.1 70.1 72.6 y-o-y % 8.6 10.2 5.5 10.9 6.1 3.6

Tropical oils 23.1 24.5 24.6 24.0 23.9 24.0 Oilseeds & grains 21.6 23.3 25.2 29.2 31.5 32.9 Sugar 6.5 8.6 9.7 12.9 14.8 15.7

ASP (USD/tonne) 888 781 724 596 605 624 y-o-y % -6.3 -12.0 -7.4 -17.7 1.6 3.2

Tropical oils 984 813 824 655 692 723 Oilseeds & grains 819 803 715 616 638 665 Sugar 561 470 418 342 327 341

Unit PBT (USD/tonne) 32.3 31.5 25.8 21.8 22.1 22.6 y-o-y % -26.7 -2.6 -17.9 -15.7 1.4 2.3

Tropical oils 51.1 45.9 39.4 26.0 25.8 28.0 Oilseeds & grains 7.9 19.3 13.8 22.3 21.6 21.4 Sugar 15.4 14.7 13.8 4.7 6.4 7.8

Source: Company, HSBC estimates

37


20 January 2016

Dominant downstream agribusiness but weak returns

Wilmar International is an integrated agribusiness company. Tropical oils, and oilseeds and

grains are two of its key segments. The tropical oils business consists of plantations and palm

mills, which produce and process palm oil from the company’s own plantations as well as third-

party producers. The oilseeds and grains division is primarily a soybean crushing business in

China with downstream presence selling edible oil products. Wilmar also has a sugar business,

which primarily processes and markets sugar in Australia. In 2014, the tropical oils business

generated 47% of revenue, while the oilseeds business generated 42% of revenue.

Regional revenue split (2014) Segmental revenue split (2014)

Source: Company, HSBC Source: Company, HSBC

Sales have flat-lined for the last three years...

...and so have the operating margins

Source: Company Source: Company

The company has run a fairly steady course in recent years but has disappointed both on

growth and profitability metrics. RoE has been stuck in a narrow range of 7-8% and RoIC has

been depressed at only 4-6% due to the large amount of capital invested in the business.

Furthermore, the quality of profits has declined over last three years as the company’s treasury

23%

46%

3%

8%

4%5%

11%

S.E. Asia

PRC

India

Europe

ANZ

Africa

Others

47%

42%

9% 2%

Tropical Oils

Oilseeds & grains

Sugar

Elimination &others

77.0

-18.0

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47.2

1.7

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Annual Sales Growth YoY%

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9.5

4.7 4.43.8 3.8 3.4

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Net debt to EBITDA steady at 6-7x… …as treasury operations generate profits

Source: Company Source: Company

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Interest earned on cash (%)


20 January 2016

38

operations have offset the decline in its core operating profits. Interest income rose to as much

as 44% of the company’s EBIT in 2014 compared to less than 10-12% prior to 2012. Net debt of

USD15bn and net debt to EBITDA of 6-7x are also worrisome, although one-third of the net

debt is for working capital (mostly hedged inventory), which is easy to liquidate.

Oversupply likely to keep tropical oils segment depressed

Although the company is one of the biggest plantation owners with 240,000 ha of self-owned

land, the overall business is skewed towards downstream operations in China and Southeast

Asia. The tropical oils segment has a refining capacity of 29MT p.a. at subsidiaries and another

9MT p.a. at the associates. An annual output of 24MT p.a. by the subsidiaries in this segment

implies that Wilmar processes almost half of the world’s palm oil consumption. The company

also has 3MT p.a. of biodiesel capacity, primarily in Indonesia. Subsidiary palm and lauric oil processing plants

Refinery Oleochemicals Speciality Fats Biodiesel

Indonesia 25 4 4 9 Malaysia 14 1 1 1 China 48 9 6 0 Vietnam 2 0 2 0 Europe 4 3 1 1 Africa 2 0 1 0 Others 4 0 1 0 Total number of plants 99 17 16 11 Total Capacity (MT p.a.) 29 2 2 3

Source: Company

Associate palm and lauric oil processing plants

Refinery Oleochemicals Speciality Fats Biodiesel

India 25 0 5 0 China 10 2 3 0 Russia 4 0 3 0 Ukraine 2 0 1 0 Malaysia 3 0 0 0 Africa 5 0 2 0 Bangladesh 2 0 0 0 Total number of plants 51 2 14 0 Total Capacity (MT p.a.) 9 <1 1 0

Source: Company

Tropical oils: Recovery in CPO prices and biodiesel volumes likely to stabilise margins


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ASP (USD/Ton) Unit PBT (USD/Ton, RHS)

39


20 January 2016

This downstream focus exposes the company to oversupply in its core markets of Malaysia and

Indonesia. Although Malaysian palm refining capacity has remained stable during the last three

years, Indonesian capacity has more than doubled. We estimate capacity exceeds Malaysian

output by 20-25% and Indonesian output by 30-35% currently. It is difficult to see quick relief

from oversupply, although we think that both an improvement in the CPO price environment and

an increase in Indonesian biodiesel output would help stabilise earnings at the current low levels.

Oilseeds to suffer from oversupply of Chinese soy crush capacity

Wilmar is the largest oilseed crusher, edible oils refiner and speciality fats and oleochemicals

manufacturer in China. Almost all of the company’s oilseed and grain division is focused on

China. It’s little surprise then that Wilmar’s oilseed margins are driven by the soybean crush

margins in China.

Oilseed and grain plants and capacity

Oilseed and grain plants Crushing Flour milling Rice milling

China 54 16 13 Malaysia 1 0 0 Vietnam 2 0 0 Africa 2 0 0 Indonesia 0 1 0 Number of subsidiary plants 59 17 13 Total Capacity (MT p.a.) 23 6 2

Source: Company

While soy crush margins have recovered since their bottom in 2012, they are still only around

half the level seen in 2008-09. According to the USDA, China’s soybean crush capacity

exceeded 430,000t per day by the end of 2014. This implies an annual crushing capacity of

about 130MT (based on 300 operating days). Crush volume, on the other hand, was only

around 70-74MT and the growth in crushed volume has slowed to a mid-single digit. We believe

that the overcapacity would persist in the foreseeable future as China’s appetite for animal

protein and soy meal approaches the saturation levels seen in the Western world.

Soy crush volume growth has slowed... …as China’s animal protein consumption

approaches the levels of the US and the EU

Source: USDA, HSBC Source: USDA, HSBC

17.0

10.5

3.8

7.1

3.7

15.9

11.09.4

5.7 5.8

7.6

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10.0

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20.0

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Oilseed meal protein/KG of meat produced


20 January 2016

40

Oilseed business profitability is driven by China soy crush margin

Source: Thomson Reuters Datastream, Company, HSBC

Steady but high financial leverage bakes in vulnerability

As highlighted earlier, there has been a significant departure between the interest income that

the company earns on its cash and its interest expenses since the latter half of 2012. This has

allowed the company to report either a thin net interest expense or a net interest income for

most of the last three years despite its net debt of around USD15bn. Interest income rose to as

much as 44% of the company’s EBIT in 2014 compared to less than 10-12% prior to 2012.

In essence, Wilmar’s treasury has generated these gains through a carry trade by funding higher

yielding RMB investments using low-cost short-term debt issued in USD. With China cutting

rates and borrowing cost headed higher in USD, net interest income is again likely to turn into

net interest expense and the onus to create profits would shift back to operations. Furthermore,

any depreciation of the RMB against the USD would also result in a FX loss for the group as in

3Q15.

Working capital and part of cash are required for operations; they are likely to be unavailable to meet near-term liquidity, if need be (USDm)

Source: Company, HSBC

Wilmar has also indicated that it has no problem meeting maturing short-term debt of USD15bn,

as its total available liquid assets (including undrawn committed facilities) was USD18bn at the

end of September 2015. We are not fully convinced by this explanation since a call to retire short-

term debt can’t be met by liquidating all working capital and using all the cash on the books without

disrupting the business. In our view, Wilmar should consider its liquidity needs after excluding

0.0

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2007 2008 2009 2010 2011 2012 2013 2014 9M2015

China Soy crush margin (USD/Tonne) WIL Oilseeds PBT (USD/Tonne)

6,815

18,04415,085

4,060

4,826

2,343

0

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6,000

9,000

12,000

15,000

18,000

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Liquid Wkg. Cap Available undrawncredit lines

Total Liquidity ST Debt

41


20 January 2016

both of these items (working capital and a minimal amount of cash). A more conservative

definition underscores the need to deleverage through asset sales or equity financing.

RoE would continue to flat-line

In our view, the narrative of Wilmar’s business and earnings is unlikely to change much over

next two years. Much like the last four years, RoE would continue to flat-line in the range of 7-8%

with persistent downside risks from overcapacity and debt-related issues. The source of profits,

however, would shift back to the core operations from the company’s treasury.

Wilmar segment-wise PBT forecasts

USDm 2012a 2013a 2014a 2015e 2016e 2017e

Tropical oils 1,182 1,125 969 622 616 671 y-o-y % -10.4 -4.8 -13.9 -35.8 -1.0 8.9 Oilseeds and grains 171 451 348 652 679 703 y-o-y % -66.3 163.4 -22.8 87.1 4.1 3.6 Sugar 100 127 134 61 94 122 y-o-y % -29.3 26.8 6.1 -54.5 54.3 29.2 Others & unallocated expenses 78 -31 5 22 77 60 Share of Associates 123 104 81 80 82 83 Segmental PBT Margin (%) Tropical oils 4.8 5.6 4.8 3.9 3.8 3.9 Oilseeds and grains 1.0 2.6 2.1 3.9 3.6 3.5 Sugar 2.7 3.1 3.3 1.4 2.0 2.3 PBT 1,655 1,775 1,538 1,437 1,548 1,639 y-o-y % -20.4 7.3 -13.4 -6.5 7.7 5.9


We expect the tropical oils business to benefit marginally from the Indonesian CPO export levy,

which reduces the cost of domestic feedstock for the company’s refineries. The oilseeds

crushing business in China is also likely to remain stable near cycle-highs but likely faces

pressure in the medium term as animal feed demand growth slows.

8-10% below consensus on 2016-17 EPS

Adoption of IAS 16 has made it difficult to compare our numbers with consensus for upstream

companies, but the impact on Wilmar is rather limited. Upstream biological assets are only 4%

of company’s total assets and the depreciation would increase by only 5-6%, in our view. Still

it’s worth pointing out that our numbers incorporate the accounting impact from 1Q16.

Under the new standard, the biological assets, which were carried at fair value based on DCF of

the plantations, will be written down to cost and, unlike the prior method, depreciation will be

charged for mature plantations. We expect WIL’s biological assets and equity value to be

written down by USD600m and USD500m in the quarter ending March 2016. We also expect

WIL’s annual depreciation to rise by about USD40m in 2016 once the new rule is adopted.

Our net profit estimate is 8-10% below consensus on slightly lower EBITDA in 2016-17. The

difference appears to be due to lower margin expectations in the core business in 2016 and

lower profits from the company’s carry trade in 2017.

HSBC estimates vs. consensus

___________ HSBC ____________ _________ Consensus _________ ____ HSBC vs. consensus ______ USDm 2015e 2016e 2017e 2015e 2016e 2017e 2015e 2016e 2017e

Sales 39,385 42,627 45,789 43,179 46,746 48,084 -8.8 -8.8 -4.8 EBITDA 2,092 2,247 2,507 2,138 2,382 2,496 -2.2 -5.7 0.4 Net Profit 1,036 1,144 1,215 1,151 1,269 1,325 -10.0 -9.9 -8.3

Source: Thomson Reuters Datastream, HSBC estimates


20 January 2016

42

Wilmar’s stock, not earnings, still sensitive to CPO prices

As explained earlier, the three most important factors driving the company’s earnings are: 1)

Indonesian palm refining margins; 2) China soy crush margins; and 3) its carry trade. Despite the

insensitivity of the company’s earnings to CPO prices, the stock tends to follow large moves in it.

These large moves may be a reflection of WIL’s high liquidity relative to other Singapore-listed

players or simply because the source of these moves is some economic factor that impacts both.

WIL’s stock is modestly correlated with correlation of around 0.7x and it typically follows large moves in CPO prices…


TP set at 2016e EV/EBITDA of 11.2x (1 SD below 5-yr average)

In the last four years, WIL’s stock has typically traded within a relatively narrow one-year

forward EV/EBITDA range of 11-13x. We base our valuation on one standard deviation below

the five-year average of 12.2x on this multiple. This implies a target 2016 EV/EBITDA of 11.2x.

Unlike upstream companies, which we argue should be trading at peak or near-peak valuations,

Wilmar’s overcapacity-ridden downstream businesses does not build a convincing investment

case. The company’s high leverage and weak link to CPO prices also favour a modest

valuation. Applying our 11.2x target multiple to our 2016 EBITDA estimate, we derive a target

price of SGD2.58 and a Hold rating.

Wilmar: One-year forward EV/EBITDA


450

600

750

900

1,050

2.40

2.60

2.80

3.00

3.20

3.40

3.60

3.80

4.00

Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15

WIL (SGD, LHS) CPO price (USD/MT, RHS)

10.0x

11.0x

12.0x

13.0x

14.0x

15.0x

16.0x

Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15

WIL -2σ -σ Avg. +σ +2σ

43


20 January 2016

At our target price, the stock would trade at a 2016e PE of 10.4x, which is around one standard

deviation below its long-term average one-year forward PE of 14.8x. This may suggest that the

stock is rather inexpensive at our valuations, but we would highlight that the long-term PE

average is skewed to the upside by pre-2012 valuations. More recently, the stock’s valuations

have gravitated to a one-year forward PE of 11-12x.

WIL: One-year forward PE relative to historical average


Target price discounts a lower CoE or upside risk to margins

While our target valuation is anchored to the stock’s 2016 EBITDA forecast and its historical

trading range on one-year forward EV/EBITDA, it’s worth understanding from a cash flow

perspective what the market is discounting. Assuming a terminal growth of 3%, our cash flow

projections are being discounted at a cost of equity of 8.8%. Although this valuation appears a

little aggressive, we would highlight that the market may simply be baking in the upside risk to

valuations from a modest increase in margins instead of lower cost of equity.

It’s worth pointing out that high operating and financial leverage at Wilmar makes its cash flow

based valuation highly sensitive to EBITDA margin evolution. At our EBITDA margin estimates

of around 5.5%, the annual FCFE is only around USD450m and the resulting DCF-based

valuation is under SGD3.07/share. However, a mere 100bp higher EBITDA margin assumption

would almost double FCFE and should be enough to justify a doubling of the target price or a

higher cost of equity.

5.0x

7.0x

9.0x

11.0x

13.0x

15.0x

17.0x

19.0x

21.0x

23.0x

25.0x

Apr-07 Apr-08 Apr-09 Apr-10 Apr-11 Apr-12 Apr-13 Apr-14 Apr-15

PE -2σ -1σ Avg +1σ +2σ

DCF pricing in a CoE of 8.8% at our margin forecasts

CoE 8.8% Terminal growth rate of FCFE 3.0% EBITDA Margin (%) 5.3 5.3 5.5 5.6 5.7 5.7

Y/e December, USDm 2015e 2016e 2017e 2018e 2019e 2020e

EBITDA 2,092 2,247 2,507 2,710 2,891 3,067 Capex -911 -953 -989 -1,010 -1,038 -1,072 Δ Wkg. Cap. 1,949 -1,130 -658 -563 -646 -710 Tax paid -324 -325 -344 -365 -388 -413 Interest paid, net 61 -77 -226 -314 -369 -406

FCFE 2,867 -238 290 458 450 466

FCFE Yield % 17.9 -1.5 1.9 3.3 3.4 3.8 PV of explicit FCFE (2015-20e) - USDm 3,875 PV of terminal value - USDm 8,012

Fair Market Value (USDm) 11,887

FX (SGD/USD) 1.39

Fair Value/share (SGD) 2.58



20 January 2016

44

We expect a return of stability at all three divisions but believe that low levels of margins would sustain due to overcapacity

Wilmar P&L

USDm 2012a 2013a 2014a 2015e 2016e 2017e

Tropical Oils 24,476 19,986 20,336 15,768 16,576 17,395 Oilseeds & grains 17,694 18,742 18,049 17,977 20,090 21,872 Sugar 3,642 4,031 4,060 4,421 4,825 5,365 Others & eliminations -348 1,326 640 1,197 954 718 Revenue 45,463 44,085 43,085 39,363 42,445 45,349 y-o-y % 1.7 -3.0 -2.3 -8.6 7.8 6.8 EBITDA 2,258 2,276 2,112 2,092 2,247 2,501 y-o-y % -7.9 0.8 -7.2 -1.0 7.4 11.3 EBITDA Margin (%) 5.0 5.2 4.9 5.3 5.3 5.5 EBIT 1,809 1,690 1,379 1,334 1,542 1,777 y-o-y % -15.2 -6.6 -18.4 -3.3 15.6 15.2 EBIT Margin (%) 4.0 3.8 3.2 3.4 3.6 3.9 Finance Costs -611 -539 -523 -468 -559 -634 Cost of debt (%) 2.8 2.2 2.2 2.1 2.5 2.9 Finance Income 334 521 600 492 483 413 Interest rate (%) 4.1 5.1 6.3 6.5 6.5 5.8 Net Interest -277 -18 77 23 -76 -221 Segmental PBT Tropical oils 1,182 1,125 969 622 616 671 y-o-y % -10.4 -4.8 -13.9 -35.8 -1.0 8.9 Oilseeds & grains 171 451 348 652 679 703 y-o-y % -66.3 163.4 -22.8 87.1 4.1 3.6 Sugar 100 127 134 61 94 122 y-o-y % -29.3 26.8 6.1 -54.5 54.3 29.2 Others & unallocated expenses 78 -31 5 22 77 60 Share of Associates 123 104 81 80 82 83 Segmental PBT Margin (%) Tropical oils 4.8 5.6 4.8 3.9 3.7 3.9 Oilseeds & grains 1.0 2.6 2.1 3.9 3.6 3.5 Sugar 2.7 3.1 3.3 1.4 2.0 2.3 PBT 1,655 1,775 1,538 1,437 1,548 1,639 y-o-y % -20.4 7.3 -13.4 -6.5 7.7 5.9 PBT Margin (%) 3.6 4.0 3.6 3.7 3.6 3.6 Tax -334 -385 -314 -325 -325 -344 Tax rate (%) 20.2 21.7 20.4 22.6 21.0 21.0 Net Profit 1,255 1,319 1,156 1,036 1,144 1,215 y-o-y % -21.6 5.1 -12.3 -10.4 10.5 6.2 Net Margin (%) 2.8 3.0 2.7 2.6 2.7 2.7 Net Profit Adjusted 1,162 1,297 1,229 1,132 1,144 1,215 y-o-y % -19.4 11.6 -5.2 -7.9 1.0 6.2 Net Margin (%) 2.6 2.9 2.9 2.9 2.7 2.7 EPS Basic (USD) 0.20 0.21 0.18 0.16 0.18 0.19 EPS Basic (SGD) 0.25 0.26 0.23 0.22 0.25 0.26 y-o-y % -22.1 5.2 -11.3 -3.1 12.0 6.2 DPS (USD) 0.04 0.06 0.06 0.05 0.06 0.06 DPS (SGD) 0.05 0.08 0.08 0.07 0.08 0.09 Dividend Payout (%) 20.5 31.0 32.3 30.4 33.0 33.0


We expect margins in tropical oils (palm refining) to be stable-to-marginally-better due to a pick-

up in biodiesel demand as well as the CPO export levy (lower feedstock prices) in Indonesia.

Margins in the oilseed business have recovered from cycle-lows in 2012 but are unlikely to rise

above current cycle-highs, given the 70-80% excess supply in China’s soy crush market. Last

but not the least; the net interest is again likely to turn negative as the carry trade unwinds.

45


20 January 2016

Cash flow increased in 2014-15 as working capital requirement decreased with lower commodity prices

Wilmar is on track to generate almost USD3bn in FCFE during 2015, but two-thirds of this is due

to the reduction in working capital as commodity prices collapsed and the costs of carry

inventories as well as receivables shrunk for the group. With commodity prices (palm oil,

soybean) near cycle-lows, another year of strong cash flows from this source is unlikely. The

onus of cash flow generation, as a result, would be back on operations.

Given our margin expectations, we doubt if the CFO would be anything more than USD1.5bn in the

medium term, particularly if the shrinking of carry trade profits is factored in. This would be enough to

cover capex of around USD1bn (USD500-600m for maintenance) with the residual being paid out as

dividends. We expect net debt to remain around USD15bn unless margins surprise us on the upside.

Cash flow statement

USDm 2012a 2013a 2014a 2015e 2016e 2017e

PBT 1,655 1,775 1,538 1,437 1,548 1,639 Depreciation & amortisation 543 608 660 661 704 725 Net Interest Expense 277 18 -77 -23 77 226 Others -181 94 -257 -7 -82 -83 Other non-cash adjustments -58 198 -176 73 0 0 Wkg. Cap. Change -581 -288 423 1,949 -1,130 -658 Interest paid -644 -566 -578 -485 -559 -635 Interest received 367 431 583 546 482 409 Income taxes paid -342 -460 -318 -324 -325 -344 CFO 1,094 1,614 1,973 3,754 715 1,278 Capex (PPE + Biological Assets) -1,822 -1,365 -1,092 -911 -953 -989 Proceeds from disposal of PPE & Biological Assets 33 55 88 123 0 0 Purchase/sales of subsidiary or associates -257 -313 -146 -455 0 0 Other Investments 191 191 -78 -161 0 0 CFI -1,856 -1,432 -1,228 -1,404 -953 -989 Dividends paid -263 -281 -383 -381 -341 -393 Issuance of stock 3 2 0 37 0 0 Repurchase of stock -18 0 -9 -137 0 0 Debt repaid 0 -205 -3,432 -4,133 -63 -296 Debt issued 6,538 1,997 2,495 548 63 336 Others -5,250 -955 97 3,419 0 0 CFF 1,011 527 -1,281 -694 -341 -353


Balance sheet

USDm 2012a 2013a 2014a 2015e 2016e 2017e

Inventories 7,137 7,221 6,581 4,976 5,904 6,492 Trade receivables 3,953 4,085 4,045 3,390 3,848 4,086 Other financial receivables 2,162 2,981 3,995 5,174 5,174 5,174 Other current assets 2,005 1,819 2,495 2,199 2,199 2,199 Cash & bank balances 8,562 11,735 7,399 7,642 7,064 7,000 Current Assets 23,819 27,842 24,515 23,381 24,189 24,951 PPE 8,924 9,337 9,477 9,119 9,293 9,424 Biological assets 1,970 1,921 1,892 1,795 1,270 1,402 Intangible assets 4,458 4,421 4,402 4,360 4,360 4,360 Associates 1,658 2,035 2,153 2,691 2,773 2,856 Other non-current assets 1,090 1,076 1,118 1,246 1,246 1,246 Non-current assets 18,101 18,790 19,043 19,211 18,941 19,288 Trade payables 1,580 1,403 1,747 1,303 1,560 1,727 Other financial payables 1,204 1,302 1,192 1,239 1,239 1,239 Loans & Borrowings 17,740 19,392 15,204 15,085 15,085 15,085 Dividends payable 0 0 0 196 232 240 Other current liabilities 889 1,095 1,055 1,005 1,005 1,005 Current Liabilities 21,413 23,191 19,197 18,827 19,121 19,295 Long-term debt 4,505 6,804 7,158 7,000 7,000 7,040 Other LT liabilities 807 750 792 815 715 715 LT Liabilities 5,312 7,554 7,950 7,815 7,715 7,755 Minority Interest 849 882 916 970 1,049 1,129 Shareholders’ Equity 14,346 15,005 15,495 14,979 15,246 16,060



20 January 2016

46

Key upside/downside risks to target price and rating

Volatility in Indonesian domestic CPO prices leading to distortion in palm refining

margins. Lower prices are better for earnings and multiples; higher prices are worse.

Lower biodiesel or edible oil demand in Indonesia and Malaysia would worsen

overcapacity and lower margins; higher demand would lead to higher margins.

Lower animal feed demand or soy crush margins in China would hurt earnings by

weakening margins in the oilseed business; higher feed demand would help margins.

Stronger USD vs. RMB would be negative for earnings since most of the company’s debt

is USD-denominated, while a relatively high portion of current and fixed assets are

RMB/MYR/IDR denominated; RMB strengthening, on the other hand, would be positive.

Macro-environment and investor sentiment could impact the company’s funding or cost

of funding. Changes in fund flows in or out of emerging markets would affect valuations.

WIL: Long-term one-year forward PE trading band on consensus estimates


0

1

2

3

4

5

6

7

8


P 8.0x 10.0x 12.0x 14.0x 16.0x

47


20 January 2016

Financials & valuation: Wilmar International Hold Financial statements

Year to 12/2014a 12/2015e 12/2016e 12/2017e

Profit & loss summary (USDm)

Revenue 43,085 39,385 42,627 45,789

EBITDA 2,112 2,092 2,247 2,507

Depreciation & amortisation -660 -661 -704 -725

Operating profit/EBIT 1,452 1,430 1,543 1,782

Net interest 77 23 -77 -226

PBT 1,538 1,437 1,548 1,639

HSBC PBT 1,610 1,534 1,548 1,639

Taxation -314 -325 -325 -344

Net profit 1,156 1,036 1,144 1,215

HSBC net profit 1,229 1,132 1,144 1,215

Cash flow summary (USDm)

Cash flow from operations 1,973 3,754 715 1,278

Capex -1,092 -911 -953 -989

Cash flow from investment -1,228 -1,404 -953 -989

Dividends -383 -381 -341 -393

Change in net debt 503 -520 579 103

FCF equity 1,208 2,828 -238 290

Balance sheet summary (USDm)

Intangible fixed assets 4,402 4,360 4,360 4,360

Tangible fixed assets 12,488 12,160 11,808 12,072

Current assets 24,515 23,381 24,189 24,951

Cash & others 7,399 7,642 7,064 7,000

Total assets 43,558 42,592 43,131 44,239

Operating liabilities 4,785 4,362 4,519 4,686

Gross debt 22,362 22,085 22,085 22,125

Net debt 14,963 14,443 15,022 15,125

Shareholders’ funds 15,495 14,979 15,246 16,060

Invested capital 29,221 27,897 28,775 29,697

Ratio, growth and per share analysis

Year to 12/2014a 12/2015e 12/2016e 12/2017e

Y-o-y % change

Revenue -2.3 -8.6 8.2 7.4

EBITDA -7.2 -1.0 7.5 11.5

Operating profit -12.9 -1.5 7.9 15.5

PBT -13.4 -6.5 7.7 5.9

HSBC EPS -5.3 -7.9 1.0 6.2

Ratios (%)

Revenue/IC (x) 1.5 1.4 1.5 1.6

ROIC 4.0 3.9 4.3 4.8

ROE 8.1 7.4 7.6 7.8

ROA 3.6 3.4 3.9 4.1

EBITDA margin 4.9 5.3 5.3 5.5

Operating profit margin 3.4 3.6 3.6 3.9

EBITDA/net interest (x) – – 29.2 11.1

Net debt/equity 91.2 90.6 92.2 88.0

Net debt/EBITDA (x) 7.1 6.9 6.7 6.0

CF from operations/net debt 13.2 26.0 4.8 8.5

Per share data (USD)

EPS Rep (diluted) 0.18 0.16 0.18 0.19

HSBC EPS (diluted) 0.19 0.18 0.18 0.19

DPS 0.06 0.05 0.06 0.06

Book value 2.42 2.34 2.38 2.51

Key forecast drivers

Year to 12/2014a 12/2015e 12/2016e 12/2017e

Tropical oils ASP (USD/MT) 824 656 700 742

Oilseeds ASP (USD/MT) 715 616 638 665

Sugar ASP (USD/MT) 418 342 327 341

Tropical oils Unit PBT (USD/MT) 39 26 26 28

Oilseeds Unit PBT (USD/MT) 14 22 22 21

Sugar Unit PBT (USD/MT) 14 5 6 8

Valuation data

Year to 12/2014a 12/2015e 12/2016e 12/2017e

EV/sales 0.6 0.6 0.6 0.6

EV/EBITDA 12.1 11.8 11.2 10.1

EV/IC 0.9 0.9 0.9 0.9

PE* 9.7 10.5 10.4 9.8

PB 0.8 0.8 0.8 0.7

FCF yield (%) 11.4 27.9 -2.3 2.9

Dividend yield (%) 3.2 2.7 3.2 3.4

* Based on HSBC EPS (diluted); **From working capital reduction due to commodity price declines

Issuer information

Share price (SGD) 2.67 Free float 31%

Target price (SGD) 2.58 Sector Food & Staples Retailing

Reuters (Equity) WLIL.SI Country Singapore

Bloomberg (Equity) WIL SP Analyst Shishir Singh

Market cap (USDm) 11,871 Contact +852 2822 4292

Price relative

Source: HSBC

Note: Priced at close of 15 Jan 2016

2.30

2.50

2.70

2.90

3.10

3.30

3.50

3.70

2.30

2.50

2.70

2.90

3.10

3.30

3.50

3.70

2014 2015 2016 2017Wilmar International Rel to STRAITS TIMES INDEX


20 January 2016

48

Most liquid upstream stock highly correlated with CPO prices

Golden Agri Resources (GGR) is the biggest Indonesian plantation owner listed in Singapore. It

has the second biggest market share in Indonesian branded cooking oil market and over

484,000 ha of oil palm plantations, predominantly in Kalimantan and Sumatra. Consensus loves

to hate GGR and there are a number of reasons why. The company has ageing plantations,

which offer little or no production growth. It has invested heavily over the years in building up its

downstream palm refining and oilseed capacities, which generate sub-optimal returns now, if

any. The company’s financial leverage is uncomfortable at a 2015 net debt to EBITDA of 5.1x

and its margins are too low to provide much of a safety cushion.

Despite these drawbacks, we believe the stock’s high correlation with CPO prices and its

liquidity make it a unique vehicle for investors for exposure to palm oil, particularly in an upcycle.

As yields and production come under pressure in 2016, we expect GGR’s RoE to benefit from

an increase in prices and would rise to mid-single digits by 2017. The case for its downstream

operations is not compelling but is not deteriorating either; selling these downstream operations

in China could help the deleveraging. Overall, an earnings recovery from a low base and FCF

generation are likely to keep multiples elevated near cycle-highs. Investors should also note that

earnings and book value will be depressed by the adoption of IAS 16 from 1 January 2016. As

the stock’s prospective PE and PB multiples won’t be comparable with their historical ranges,

we adopt an EV/EBITDA-based valuation methodology.

GGR: Key performance metrics

2012a 2013a 2014a 2015e 2016e 2017e

Mature oil palm (ha)* 416,309 430,711 440,578 461,831 469,862 476,597 y-o-y % 6.5 3.5 2.3 4.8 1.7 1.4 FFB Yield (t/ha) 23.3 21.0 21.7 20.8 19.9 20.5 CPO production growth y-o-y % 10.3 -4.9 6.7 -2.2 -4.2 3.9 EBITDA Margin 12.8 9.9 7.2 7.1 8.8 9.3 Plantations NA 27.8 29.1 25.0 32.5 34.1 Palm refining NA 2.8 0.9 1.9 1.9 1.7 Oilseeds NA 2.3 -7.2 1.5 1.7 1.8 Capex/Sales 6.8 7.9 6.0 6.3 4.8 3.9


Golden Agri (GGR)

GGR is the biggest plantation owner among Singapore-listed palm

equities with a dominant position in Indonesian cooking oils

High leverage has made RoE and stock highly sensitive to CPO

prices; it is likely to achieve its previous peak RoE of 6% by 2017

High liquidity and correlation to CPO prices make GGR the vehicle of

choice for palm oil exposure; initiate at Buy with a TP of SGD0.47

based on 10x 2016e EV/EBITDA, 2SD above the 5-year average

49


20 January 2016

Vertically integrated but driven by maturing upstream plantations

Golden Agri Resources (GGR) is a vertically integrated plantation company, majority owned by

the Widjaja family. With a total planted area of 484,000 ha (21% owned by the smallholders

under the Plasma scheme), it’s the biggest plantation owner among the Singapore-listed

Indonesian oil palm companies. Its plantations are predominantly based in Kalimantan and

Sumatra and produce 7-8% of the Indonesian palm oil output. GGR also has exposure to a

220,000 ha concession for oil palm plantations in Liberia through a private equity fund.

The pace of new plantings ran at 14-15,000 ha per annum during 2010-14 which, barring

weather effects, underpins 2-3% y-o-y organic growth over the next 2-3 years. New plantings

were put on hold following the suspension of The Forest Trust’s (TFT) work with GGR on forest

conservation and sustainability issues. Both organisations agreed to re-engage after GGR took

steps to rectify the situation, including the reorganisation of its sustainability management team.

GGR also operates palm oil refineries with a total capacity of 4.7MT p.a. in Indonesia as well as

2.3MT p.a. soy crushing capacity in China. GGR is one of the top two cooking oil brands in

Indonesia along with Indofood Agri Resources (IFAR SP, SGD0.50, Buy). The downstream

segment of the company trades more than a quarter of Indonesia’s total palm oil output.

Age distribution of GGR’s plantations Regional split of self-owned plantations

Source: Company; Total = 383,000 ha Source: Company

Segment-wise sales (USDm) Segment-wise EBITDA (USDm)

Source: Company, HSBC estimates. Excludes inter-segment elimination. Source: Company, HSBC estimates

Although, revenues are skewed towards the company’s downstream business, it’s the upstream

plantations business, which generates at least three-quarters of the EBITDA. Still, much like

other downstream-heavy players, GGR’s plantations are at peak maturity with an average age

of 15 years. This limits the potential of further gains in FFB yields and, in fact, exposes the

plantation yields to weather-induced downside. In short, if all else is unchanged, the biggest

trigger for GGR’s profitability is higher CPO and PKO prices instead of production.

5%11%

47%

32%

5%

Immature (0-3years)

Young (4-6years)

Prime-1 (7-18years)

Prime-2 (19-25years)

Old (25+ years)

38%

59%

3%

Sumatra

Kalimantan

Papua

0

2,000

4,000

6,000

8,000

10,000

2013 2014 2015e 2016e 2017e

Plantations Palm & Laurics Oilseeds Others

-200

0

200

400

600

800

2013 2014 2015e 2016e 2017e

Plantations Palm & Laurics Oilseeds Others

Downstream business drives

sales, but upstream business

generates most profits

GGR’s earnings are largely

driven by CPO price, not

production growth


20 January 2016

50

Ownership: debtholders’ share has increased over the years

GGR is majority owned by Indonesia’s Widjaja family. The company’s free float is little more

than one-third of the outstanding shares. The company has invested heavily since 2010, both

upstream and downstream; however, returns haven’t kept pace. The free cash flow deficit

during 2012-14, in particular, resulted in a pile of debt, which now commands a greater share of

the enterprise value than the company’s shareholders.

Ownership – Family-controlled company Mkt. cap. increasingly depressed by debt

Source: Company Source: Company, HSBC estimates

Indebted but can’t ignore the stock when CPO price rises

RoE more sensitive to CPO price due to increase in leverage over the years

GGR has the lowest net margin (2014, %) due to high leverage

Source: Company, HSBC estimates Source: Companies. BAL = Bumitama Agri (Not Rated).

Link to CPO price tighter than ever: It’s right that several years of over-investment and the

build-up of leverage on GGR’s books have depressed the company’s RoE, but it’s also true that

this leverage has made the company’s net margins and RoE sensitive to changes in CPO

prices. It is for this reason that we think it will be wrong to ignore the stock when CPO prices

moves up, even if it may look pricier on metrics, such as PE or PB. It is worth noting that GGR’s

stock has historically been highly correlated with CPO prices and, we have no reason to believe

that this correlation would not hold in the next upcycle.

CPO production to decline in 2016: GGR maintained its FFB production guidance at 0-5% y-

o-y in 2015 as dry weather last year triggered a fall in yields. We estimate another c5% fall in

FFB yields on top of the 4% fall estimated for 2015 as this year’s dry weather and haze take a

toll. We estimate that FFB and CPO production is likely to remain flat in 2015 but fall by 3% y-o-

y in 2016. In addition, the company estimates that the impact of this year’s El Niño can lead to a

10% fall in Indonesian palm production.

50%

11%

39%

Widjaja Family

SilchesterInternational

Free Float0

2,000

4,000

6,000

8,000

10,000

Mar

-07

Mar

-08

Mar

-09

Mar

-10

Mar

-11

Mar

-12

Mar

-13

Mar

-14

Mar

-15

Mkt. Cap Net Debt

-5.0

0.0

5.0

10.0

500

700

900

1,100

1,300

2008

2009

2010

2011

2012

2013

2014

2015

e

2016

e

2017

e

CPO Px (USD/MT) RoE(%) - Clean, RHS

1.0 2.75.1

20.0

28.2

0.0

5.0

10.0

15.0

20.0

25.0

30.0

GGR WIL IFAR BAL FR

51


20 January 2016

Downstream profitability likely to remain low but stable: The introduction of an Indonesian

CPO export levy is a marginal positive for domestic refiners but would really have been helpful if

there wasn’t any overcapacity in Indonesian palm refining. This just isn’t true and we fail to see

any material improvement in downstream earnings over the next 2-3 years. Moreover, the China

soy crushing business is unlikely to become much better. Crush margins are already at cyclical

highs, overcapacity is intense and the growth in soymeal, the primary product of the crush, is

likely to slow in the future. It’s hardly any surprise then that GGR plans to restructure its

business with planned sale of one of its two soybean crushing plants.

GGR: Key performance metrics

Key metrics 2012a 2013a 2014a 2015e 2016e 2017e

FFB Yield % 23.3 21.0 21.7 20.8 19.9 20.5 CPO Production y-o-y % 9.5 -4.9 6.5 -2.6 -4.2 3.9 Plantation ASP (USD/MT) N/A 633 653 520 611 622 Plantation ASP discount to benchmark (%) N/A -16.9 -12.4 -8.1 -6.9 -9.5 Plantation pre-EBITDA cost (IDR ’000/ha/yr) N/A 37,617 46,341 39,265 39,815 40,526 EBITDA Margin (%) 12.8 9.9 7.2 7.0 8.8 9.3

Plantation (%) N/A 27.8 29.1 24.9 32.5 34.1 Palm & Laurics (%) N/A 2.8 0.9 1.9 1.9 1.7 Oilseeds (%) N/A 2.3 -7.2 1.5 1.7 1.8

EBIT (USDm) 679 518 256 203 421 455 y-o-y % -61.6 -23.6 -50.6 -20.8 107.5 8.1 Net Profit 410 310 113 60 220 249 y-o-y % -67.7 -24.3 -63.4 -46.7 264.3 13.0


Above consensus on EBITDA but below on EPS due to IAS 16

While our EBITDA estimates are 11-15% ahead of consensus, our net profit estimates are 7-8%

below. In our view, consensus has probably not adjusted numbers fully to account for the

increase in depreciation due to adoption of IAS 16 from 1 January 2016 and this is what

explains the difference between our net profit and that of the Street.

To explain this further, we would highlight that Singapore-listed plantation companies will adopt

IAS 16 for the accounting of biological assets from 1 January 2016. The new standard requires

biological assets classified as bearer plants to be accounted for like property, plant and

equipment (PPE) and be depreciated as such. So far, these assets were recorded at DCF-

based fair values less costs to sell under IAS 41.



charged for mature plantations. The company has guided that GGR’s biological assets and

equity value are likely to be written down by USD6.7bn and USD5bn, respectively, on adoption of

the new rule. Management has also guided GGR’s annual depreciation to rise by USD70-80m.



Sales 6,607 7,851 7,928 6,750 7,295 7,778 -2.1 7.6 1.9 EBITDA 466 688 733 504 596 658 -7.6 15.4 11.4 Net Profit 60 220 249 198 237 270 -69.5 -7.0 -7.7



20 January 2016

52

GGR’s stock and earnings are highly sensitive to CPO price

Investors must note the relatively high correlation between GGR’s stock and CPO price. This is

not without reason. A 1% change in our CPO price assumptions of USD656/tonne in 2016e and

USD688/tonne in 2017e would change our GGR’s earnings estimate by 5-6%.

GGR’s stock and CPO prices have had a correlation of 0.93x since the end of 2011


Our GGR’s earnings change by 5-6% for every 1% change in CPO

Source: HSBC

TP set at 2016e EV/EBITDA of 10x (2SD above 5-yr avg.)

Despite its weak production and returns profile, we believe that GGR’s stock would trade close

to its cyclical peak once the CPO upcycle takes off. We establish our target price at SGD0.47

based on a one-year forward EV/EBITDA of 10x, two standard deviations above the five-year

average.

450

600

750

900

1,050

1,200

0.20

0.30

0.40

0.50

0.60

0.70

0.80

0.90

Dec-11 Apr-12 Aug-12 Dec-12 Apr-13 Aug-13 Dec-13 Apr-14 Aug-14 Dec-14 Apr-15 Aug-15 Dec-15

GGR (SGD, LHS) CPO price (USD/MT, RHS)

-58

-29-11

11

29

57

-54

-27-11

11 27

54

-80.0

-60.0

-40.0

-20.0

0.0

20.0

40.0

60.0

80.0

-10% -5% -2% 0% 2% 5% 10%

Change in CPO price assumption

Change in 2016 EPS Change in 2017 EPS

53


20 January 2016

GGR: One-year forward EV/EBITDA peaked at 10.6x during 2011-15


Given the cyclical nature of the stock, multiples tend to be close to peak during earning troughs,

such as now and, tend to deflate during the course of the upcycle. This is the reason for

choosing the peak multiple as a basis of our target price.

Our choice of EV/EBITDA over other valuation metrics, such as PE and PB, is driven by the fact

that EBITDA will not be impacted by the company’s switch to IAS 16 from 1 January 2016 and

the calculation EBITDA will remain consistent with history. On the other hand, both earnings

and book value are set to contract due to IAS 16, skewing historical comparisons.

Although, the accounting change would result in lower earnings and book value, it would have

no impact on the company’s cash flows. As a result, we expect the PE and PB multiples of

Singapore-listed plantation stocks to rise. Indeed, our target price implies 2016e and 2017e PE

multiples of 19.6x and 17.5x, respectively, which are materially higher than two standard

deviations (14.6x) above the five-year average one-year forward PE.

GGR: One-year forward PE is likely to be higher in the future due to IAS 16 adoption


6.0x

6.5x

7.0x

7.5x

8.0x

8.5x

9.0x

9.5x

10.0x

10.5x

11.0x


GGR -2σ -σ Avg. +σ +2σ

8.0x

9.0x

10.0x

11.0x

12.0x

13.0x

14.0x

15.0x

16.0x

Jan-11 Jun-11 Nov-11 Apr-12 Sep-12 Feb-13 Jul-13 Dec-13 May-14 Oct-14 Mar-15 Aug-15


IAS 16 adoption leaves only

EV/EBITDA consistent with

history but PE/PB would be

higher as EPS/BV decline


20 January 2016

54

GGR: One-year forward PE trading band on consensus estimates


TP discounts CPO price of USD700-750/tonne at CoE of 12.5%

Since historical PE and PB trading ranges are likely to be less relevant in assessing the fair

value of the stock after IAS 16 adoption, we back-test our EV/EBITDA-based target price with a

DCF methodology. Our medium-term forecasts for CPO prices (FOB, Malaysia) range between

USD700-750/tonne and we estimate that these would generate a FCFE yield of 7-8% at our

target price of SGD0.47. In other words, our target price discounts CPO price of USD700-

750/tonne at a cost of equity of 12.5%.

GGR: Our TP discounts CPO prices of USD700-750/tonne at cost of equity of 12.5%

CoE 12.5% Terminal growth rate of FCFE 3.0% CPO Price - FOB Malaysia - USD/MT 566 656 688 708 729 751

YE December, USDm 2015e 2016e 2017e 2018e 2019e 2020e

EBITDA 466 688 733 756 770 779 Capex -416 -375 -306 -269 -251 -244 Δ Wkg. Cap. 320 -126 10 -19 -23 -25 Tax paid -114 -74 -84 -91 -97 -104 Interest paid, Net -90 -124 -120 -111 -97 -79

FCFE 166 -11 234 267 301 327

FCFE Yield % 3.3 -0.2 5.9 7.4 8.2 8.7 PV of explicit FCFE (2015-20e) - USDm 897 PV of terminal value - USDm 3,442


FX (SGD/USD) 1.39



Liquidity and correlation to CPO price attractive for investors

As highlighted earlier, GGR’s multiples have gravitated above its average valuations in more

recent times. This could be partly explained by the cyclical nature of the stock in a downcycle,

but we think that GGR’s liquidity and high correlation to CPO prices also play a role.

With an average daily trading value of USD7m over the last year, GGR provides global equity

investors with the most liquid exposure to CPO prices. The high correlation of GGR’s stock with

CPO prices, coupled with its daily liquidity, has essentially made it the de-facto vehicle for equity

investors to gain exposure to CPO prices; hence, its valuation premium.

0.25

0.35

0.45

0.55

0.65

0.75

Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15

P 10.0x 11.0x 12.0x 13.0x 14.0x

Liquidity and strong

correlation with CPO prices

underpin GGR’s premium

valuation

55


20 January 2016

GGR’s valuation premium is justified by its liquidity and correlation with palm oil prices

Source: Bloomberg, HSBC estimates. GENP = Genting Plantations, KLK = KL Kepong, SIME = Sime Darby, FGV = Felda Global Ventures (All Not Rated)

High leverage and FX depreciation to boost RoE

GGR has relatively high operating leverage with EBIT margins in the low single digits as well as

high financial leverage in which net interest expenses could be as much as half of EBIT in

trough years like 2015. The high leverage has made the company’s RoE more sensitive to CPO

prices now than during the last upcycle. Consequently, we expect the company’s RoE to

recover its previous peak RoE of 6% (excluding one-off gains and losses) in 2017 despite much

lower CPO prices compared to 2011-12 upcycle. This belief underpins our valuation of the

company near peak multiples.

P&L

USDm 2013a 2014a 2015e 2016e 2017e

Plantations & Palm Oil mills 1,751 1,927 1,502 1,692 1,790 Palm & Laurics 5,150 6,465 5,948 7,193 7,327 Oilseeds 1,134 845 596 608 561 Others 184 201 201 200 200 Inter-segment eliminations -1,635 -1,819 -1,640 -1,841 -1,950

Revenue 6,584 7,619 6,607 7,851 7,928 y-o-y % 8.8 15.7 -13.3 18.8 1.0

Plantations & Palm Oil mills 10.1 -22.0 12.6 5.8 Palm & Laurics 25.5 -8.0 20.9 1.9 Oilseeds -25.5 -29.5 2.0 -7.7

EBITDA (Adjusted) 649 545 466 688 733 EBITDA Margin (Adjusted) 9.9 7.2 7.0 8.8 9.3 Plantations & Palm Oil mills 487 561 375 549 610 Palm & Laurics 142 57 113 137 121 Oilseeds 26 -61 9 10 10 Others 10 13 4 6 7 EBITDA (Co. Reported, includes interest income) 665 571 501 703 748 y-o-y % -15.6 -14.3 -12.2 40.2 6.4 Plantations & Palm Oil mills 27.8 29.1 24.9 32.5 34.1 Palm & Laurics 2.8 0.9 1.9 1.9 1.7 Oilseeds 2.3 -7.2 1.5 1.7 1.8 EBITDA Margin (%) - Co. Reported 10.1 7.5 7.6 9.0 9.4 Operating Profit 552 263 296 421 455 Y-o-Y % -22.3 -52.4 12.7 42.2 8.1 Operating Margin (%) 8.4 3.4 4.5 5.4 5.7 FX gain/(loss) -33 -14 -99 0 0 Share of results of associates 1 0 0 0 0 Share of results of JVs -2 0 6 0 0 Exceptionals 0 8 0 0 0 EBIT 518 256 203 421 455 Y-o-Y % -23.6 -50.6 -20.8 107.5 8.1 EBIT Margin (%) 7.9 3.4 3.1 5.4 5.7

WIL

GGR

FRIFAR

SIME

IOI KLK FGVGENP

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

-0.4x -0.2x 0.0x 0.2x 0.4x 0.6x 0.8x 1.0x

Dai

ly t

rad

ed

val

ue

1-y

r av

g (U

SD m

n)

Correlation of stock price & CPO price since end of 2011


20 January 2016

56

P&L

USDm 2013a 2014a 2015e 2016e 2017e

Finance Costs -106 -123 -138 -139 -134 Cost of debt (%) 4.8 4.4 4.5 4.6 4.6 Finance Income 17 25 36 15 14 Interest rate (%) 3.8 7.7 13.5 7.4 7.1 PBT 429 158 101 297 335 y-o-y % -29.9 -63.2 -36.2 194.9 12.8 PBT Margin (%) 6.5 2.1 1.5 3.8 4.2 Tax -114 -41 -38 -74 -84 Tax rate (%) 26.6 25.9 37.4 25.0 25.0 PAT 315 117 63 223 252 Minorities -5 -3 -3 -3 -3 Net Profit 310 113 60 220 249 y-o-y % -24.3 -63.4 -46.7 264.3 13.0 Net Margin (%) 4.7 1.5 0.9 2.8 3.1 Wtd. Avg. Shares (m) 12,838 12,838 12,756 12,735 12,735 EPS Basic (USD) 0.02 0.01 0.00 0.02 0.02 EPS Basic (SGD) 0.03 0.01 0.01 0.02 0.03 y-o-y % -26.8 -62.9 -42.0 270.1 13.0 DPS (SGD) 0.01 0.01 0.00 0.00 0.00 Dividend Payout (%) 36.1 52.3 7.9 14.8 13.9


The company doesn’t disclose details on its cost structure on an ongoing basis but has reported

in the past that close to 30% of its cash costs (pre-EBITDA) are for fertilisers (industry

benchmark at 30-40%) and another 40% of the costs are for labour. The two more important

things to note, however, are that: 1) most costs are fixed in nature and, consequently, CPO

price inflation is highly earnings accretive and 2) the product price and, hence, revenues are

largely USD-denominated, almost half of the costs are IDR-denominated. This makes

Indonesian upstream companies like GGR a beneficiary of local currency depreciation.

Rising revenues along with leverage and FX depreciation are likely to result in a doubling of

EBIT and more than tripling of net profit in 2016, in our view.

GGR: High operating and financial leverage has made RoE more sensitive


-1.6

6.2

0.5

4.6

4.8 3.62.9

1.8

3.5

6.2

872

647

863

1,078

937

761745

566 656688

500

600

700

800

900

1,000

1,100

1,200

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

2008 2009 2010 2011 2012 2013 2014 2015e 2016e 2017e

RoE(Clean, %) CPO price (USD/MT, RHS)

57


20 January 2016

Cash flow statement

USDm 2013a 2014a 2015e 2016e 2017e

PBT 429 158 101 297 335 Depreciation & amortisation 134 149 169 267 278 Net Interest Expense 89 98 102 124 120 Others -186 239 34 0 0 Wkg. Cap. Change -125 -131 320 -126 10 Interest received 12 17 26 15 14 Interest paid -81 -97 -116 -139 -134 Income taxes paid -254 -84 -114 -74 -84 CFO 18 349 523 364 540 Capex -519 -458 -416 -375 -306 Proceeds from disposal of PPE & Biological Assets 8 21 5 0 0 Purchase/sales of subsidiary or associates -5 -51 -55 0 0 Other Investments -337 -190 -76 0 0 CFI -852 -678 -542 -375 -306 Dividends paid -131 -53 -57 -7 -39 Issuance of stock 0 0 0 0 0 Repurchase of stock 0 0 -32 0 0 Debt repaid -45 0 -1,939 -151 -245 Debt issued 795 383 1,905 170 50 Other CFF -7 0 -4 0 0 CFF 612 330 -128 11 -234


FCF to increase as high investment phase comes to an end

We believe that the company is coming out of its high investment phase as new plantings have

zeroed out from an average of around 26,000 ha in 2007-09 period and 14,000 ha during 2010-

14. As capex/sales moves down to sub-5%, we see the company yielding around 6% free cash

flow to equity holders (FCFE) at our target price of SGD0.47. However, this cash flow is likely to

be put to use for the company’s deleveraging instead of dividends in the near term.

Balance sheet

USDm 2013a 2014a 2015e 2016e 2017e

Inventories 772 851 612 777 762 Trade receivables 474 526 490 622 609 Other current assets 706 827 1,156 1,156 1,156 ST Investments 259 261 248 248 248 Cash & bank balances 327 330 200 200 200 Current Assets 2,539 2,794 2,706 3,003 2,975 PPE 2,351 2,552 2,826 2,934 2,962 Biological assets 7,988 7,902 7,931 1,167 1,167 Goodwill 116 152 152 152 152 Other non-current assets 1,155 1,266 1,269 1,269 1,269 Non-current assets 11,610 11,872 12,178 5,522 5,550 Trade payables 556 543 641 812 793 ST Loans + Bonds Payable 1,060 1,641 1,669 1,669 1,669 Other current liabilities 268 316 474 499 495 Current Liabilities 1,884 2,501 2,784 2,980 2,958 LT Borrowings + Bonds & notes payable 1,521 1,427 1,352 1,370 1,175 Other LT liabilities 2,022 2,010 1,905 197 197 LT Liabilities 3,544 3,438 3,256 1,566 1,371 Minority Interest 83 90 91 94 97 Shareholders’ Equity 8,638 8,639 8,753 3,885 4,099


We expect the company’s net debt to EBITDA to fall to 3.2x by the end of 2017 from over 5x at

the end of 2015.


20 January 2016

58

Key downside risks to target price and rating

Volatility in CPO prices: Higher prices are better for earnings and multiples.

Weather: Changes in rainfall patterns (caused by either El Niño or La Niña) would affect

FFB yields and CPO prices with some lag.

Stronger USD vs. IDR is typically supportive of earnings since costs are largely in IDR

whereas CPO prices trade as a USD-denominated commodity. The margin gains from USD

strength are most significant, if IDR weakness does not spark cost inflation.

Change in expansion plans could result in material changes to our volume growth, capex,

leverage and interest expense forecasts.

Regulatory tariffs: Higher cross-border tariffs increase the competition for higher margin

local market and hurt exports.

Macro-environment and investor sentiment regarding emerging market equities:

Changes in fund flows in or out of emerging markets would affect valuations.

59


20 January 2016

Financials & valuation: Golden Agri-Resources Buy Financial statements

Year to 12/2014a 12/2015e 12/2016e 12/2017e


Revenue 7,619 6,607 7,851 7,928

EBITDA 545 466 688 733


Operating profit/EBIT 396 296 421 455

Net interest -98 -102 -124 -120

PBT 158 101 297 335

HSBC PBT 298 200 297 335

Taxation -41 -38 -74 -84

Net profit 113 60 220 249

HSBC net profit 253 159 220 249


Cash flow from operations 349 523 364 540

Capex -458 -416 -375 -306

Cash flow from investment -678 -542 -375 -306

Dividends -53 -57 -7 -39

Change in net debt 484 95 18 -195

FCF equity -182 230 -11 234


Intangible fixed assets 152 152 152 152


Current assets 2,794 2,706 3,003 2,975

Cash & others 591 448 448 448

Total assets 14,667 14,885 8,525 8,525


Gross debt 3,068 3,021 3,039 2,844

Net debt 2,478 2,572 2,591 2,396




Year to 12/2014a 12/2015e 12/2016e 12/2017e

Y-o-y % change

Revenue 15.7 -13.3 18.8 1.0

EBITDA -15.9 -14.6 47.8 6.6


PBT -63.2 -36.2 194.9 12.8

HSBC EPS -17.1 -36.7 38.4 13.0

Ratios (%)

Revenue/IC (x) 0.8 0.6 1.0 1.4

ROIC 3.0 1.8 4.0 6.2

ROE 2.9 1.8 3.5 6.2

ROA 1.4 1.0 2.8 4.1

EBITDA margin 7.2 7.0 8.8 9.3


EBITDA/net interest (x) 5.6 4.6 5.6 6.1

Net debt/equity 28.4 29.1 65.1 57.1




EPS Rep (diluted) 0.01 0.00 0.02 0.02

HSBC EPS (diluted) 0.02 0.01 0.02 0.02

DPS 0.00 0.00 0.00 0.00

Book value 0.67 0.69 0.31 0.32


Year to 12/2014a 12/2015e 12/2016e 12/2017e

Plantations EBITDA Margin (%) 29 25 32 34

Palm & Laurics EBITDA Margin (%) 1 2 2 2

Oilseeds EBITDA Margin (%) -7 2 2 2

Plantations - % of Sales 25 23 22 23

Palm & Laurics - % of Sales 85 90 92 92

Oilseeds - % of sales 11 9 8 7

Valuation data

Year to 12/2014a 12/2015e 12/2016e 12/2017e

EV/sales 0.7 0.9 0.7 0.7

EV/EBITDA 10.3 12.2 8.3 7.5

EV/IC 0.6 0.6 1.0 1.0

PE* 12.0 18.9 13.7 12.1

PB 0.4 0.3 0.8 0.7

FCF yield (%) -5.8 7.4 -0.4 7.5

Dividend yield (%) 2.0 0.2 1.1 1.2

* Based on HSBC EPS (diluted)

Issuer information


Target price (SGD) 0.47 Sector Agricultural Products

Reuters (Equity) GAGR.SI Country Singapore

Bloomberg (Equity) GGR SP Analyst Shishir Singh


Price relative

Source: HSBC


0.24

0.29

0.34

0.39

0.44

0.49

0.54

0.59

0.64

0.24

0.29

0.34

0.39

0.44

0.49

0.54

0.59

0.64

2014 2015 2016 2017Golden Agri-Resources Rel to STRAITS TIMES INDEX


20 January 2016

60

Consensus preferred stock but near-term growth is priced in

First Resources (FR) is the consensus preferred stock and not without good reason. The

company delivers production growth through a relatively young plantation profile (average age

of nine years) without the risk of much financial leverage. Although, a long-term DCF

methodology clearly shows value in the stock, its weak correlation with CPO prices and

historical trading range suggests less upside from current levels, at least until the company’s

FCF delivery begins in earnest (2017 and beyond). We initiate with a TP based on 2016e

EV/EBITDA of 8.7x, two standard deviations above its five-year average of 7.1x on one-year

forward EV/EBITDA.

Production growth to rebound in 2017: FR planted 15,000-20,000 ha during 2012-14. As

these plantations mature, CPO production is likely to hold flat despite tree stress and lower

yields in 2016. The full impact of production growth and increase in CPO prices would come in

2017. We expect CPO production to accelerate to 10% y-o-y in 2017. It is worth mentioning that

the company has also been fairly active in seeking acquisitions but has not typically paid

excessively for them.

Upstream margin expansion to drive RoE: Upstream plantation costs tend to be relatively

fixed in nature with labour and fertiliser accounting for the bulk of COGS. This allows for margin

expansion in the event of price increases. We expect FR’s upstream margins to head back to

levels last seen in 2011, but the depressed margins downstream due to oversupply are likely to

prevent a full recovery. RoE is likely to recover to mid-20s (%) in 2017, partly due to the

application of a new accounting rule, which would require equity to be written down in 2016.

FR: Key operating metrics

2012a 2013a 2014a 2015e 2016e 2017e

Mature oil palm (ha) 85,888 104,493 114,377 132,345 141,062 156,422 y-o-y % 15.0 21.7 9.5 15.7 6.6 10.9 FFB Yield (t/ha) 22.1 18.7 18.7 18.3 17.3 17.7 CPO Yield (%) 23.2 23.1 22.4 22.7 22.4 22.1 CPO production (’000 tonnes) 525 589 631 713 714 786 PKO production (’000 tonnes) 123 135 146 161 170 191 EBITDA Margin 53.5 54.1 48.7 48.7 52.6 57.7 Capex/Sales 34.7 28.4 34.2 29.7 25.7 22.2 Source: Company, HSBC estimates

First Resources (FR SP)

FR’s relatively clean upstream focus with a lack of financial leverage

makes it one of the Street’s favourites in the sector

But, full value unlikely to be realised before FCF delivery begins in

2017; in 2016, stock likely to be anchored to historical trading range

Initiate at Buy with a target price of SGD2.11, based on 8.7x 2016e

EV/EBITDA, 2SD above the 5-year average

61


20 January 2016

Owner of relatively young oil palm plantations in Indonesia

FR is one of the biggest oil palm plantation owners in Indonesia. The company has more than

200,000 ha of plantations of which it owns 85% with the rest being under the Plasma (small

landowner) scheme. The company owns 12 palm oil mills across Riau and Kalimantan, which

have a combined capacity to process more than 4MT of FFB. Downstream refining and

biodiesel plants have a capacity of 850,000t per annum.

FR oil palm plantations

Source: HSBC

FR owns among the youngest plantations in the sector, with an average plantation age of less

than 10 years. The company has a total land bank of around 250,000 ha for oil palms, of which

it has planted over 80%. The new plantings ran close to 15,000 ha per year during the early part

of this decade and would be a source of production growth between 2016 and 2018 as the trees

reach maturity. Consequently, we think that the company’s CPO production would reaccelerate

in 2017 once the impact of El Niño on 2016 yields fades off.

Oil palm average age distribution CPO production growth (y-o-y %)

Source: Company. Total = 205,631 ha at end of 3Q15. Source: Company, HSBC estimates

Although the company has an ample land bank to pursue growth over the next 3-4 years, it has

slowed the pace of new plantings to 5-7,000 ha this year. We expect the pace of planting to

remain subdued in 2016-17 but expect a recovery to 10,000 ha annually beyond this period as

and when palm oil prices return toward mid-cycle averages.

To encourage and enforce sustainable agriculture practices in palm oil, Indonesia placed a two-

year moratorium on the issuance of new forest licenses for logging, oil palm, and wood-fibre

plantations in May 2011. The moratorium has been extended twice, once in 2013 and more

-

Malaysia

– –

-

-

-

-Malaysia

28%

27%

24%

21%0-3 years

4-7 years

8-17 years

18+ years

16.2

12.1

7.1

13.1

0.0

10.1

0.0

5.0

10.0

15.0

20.0

2012 2013 2014 2015e 2016e 2017e

FR’s new plantings during

2012-14 would be a source of

production growth in 2016-18

FR actively seeking inorganic

expansion as well


20 January 2016

62

recently in 2015. Increasing regulatory limitations, such as these, due to sustainability and

environmental issues have made plantation owners seek growth elsewhere.

It’s worth noting that First Resources has been among one of the most active Indonesian

plantation owners to pursue inorganic expansion. Having said that, we must acknowledge that

the company does not appear to have ever overspent, with acquisitions priced reasonably in the

range of USD8,000-11,000 EV/ha.

Family-owned firm with upstream heavy earnings

FR is majority owned by the family of Mr. Ciliandra Fangiono, the company’s CEO since 2007.

The free float in the company is c31% with the rest being owned by family and associates.

Ownership (% of outstanding shares) Segment-wise EBITDA (USDm)

Source: Company Source: Company, HSBC estimates

The company has a presence both in upstream plantations as well as downstream refining and

biodiesel operations; however, most of its EBITDA currently comes from its upstream

operations.

CPO price-driven RoE recovery despite production decline

We expect FR to hold its CPO production flat despite a decline in yields as the company’s

relatively young plantations are likely to be relatively less impacted by dryness in 2015. The

structural increase in production from maturing plantations, which were planted during 2012-14,

is also likely to shield the company’s production from a decline in 2016 with a reacceleration in

production growth in 2017.

Key earnings drivers

2012 2013 2014 2015e 2016e 2017e

CPO production y-o-y % 16.2 12.1 7.1 13.1 0.0 10.1 ASP y-o-y % -7.3 -3.0 -16.7 -19.6 14.2 3.1 Revenue y-o-y % 22.0 3.8 -1.8 -24.8 25.2 11.2 Plantation EBITDA Margin % 58.5 53.9 51.6 51.1 56.5 60.0 Refining EBITDA Margin % 12.3 13.2 8.0 7.7 5.2 6.4 Operating Profit y-o-y % 9.8 4.5 -13.6 -27.5 24.0 26.1 EPS, Adjusted (SGD cents) 19.2 18.8 13.9 10.2 13.8 18.1 EPS, Adjusted y-o-y % 15.4 -2.0 -26.2 -26.2 35.2 30.6


Despite the relatively weak production expected next year, we believe that the jump in prices

and relatively fixed cost structure would be enough to deliver a strong rebound from cyclical

lows of earnings in 2015. We expect the company’s RoE to rebound from an estimated 12.3%

63%6%

31%Eight cap.

Infinite cap.

Free Float

295 314266

217

295356

30 27 33 21 18 24

-100

0

100

200

300

400

2012 2013 2014 2015e 2016e 2017ePlantations Refining Others

63


20 January 2016

in 2015 to 19.9% in 2016 and 27% in 2017. We expect the company’s net debt to remain

relatively flat in 2016 but come down from 2017 onwards.

In line with the Street on 2016 EBITDA but accounting distortions and inter-segment sales make it tough to compare sales and net profit

Singapore-listed plantation companies will adopt IAS 16 for the accounting of biological assets

from 1 January 2016. The new standard requires biological assets classified as bearer plants to

be accounted for like property, plant and equipment (PPE) and be depreciated as such. So far,

these assets were recorded at DCF-based fair values less costs to sell under IAS 41.



charged for mature plantations. We expect FR’s biological assets and equity value to be written

down by USD400m and USD350m in the quarter ending March 2016. We also expect FR’s

annual depreciation to rise by approximately USD30m in 2016 once the new rule is adopted.

Consensus has probably not adjusted the numbers fully to account for depreciation and this is

probably what explains the difference between our 2016 EPS forecast and that of the Street.

We also believe that consensus estimate for inter-segment elimination is too low, which explains

our below-consensus sales forecast. The distortion created by the accounting change and inter-

segment elimination leaves only EBITDA as a comparable number. We are in line with the

Street on 2016 EBITDA but 10% ahead on 2017.



Sales 463 579 644 541 646 728 -14.4 -10.4 -11.5 EBITDA 225 304 372 248 299 339 -9.3 1.8 9.6 Net Profit 118 158 206 139 165 192 -15.4 -4.3 7.1


DCF shows value but…

FR has generated a positive free cash flow to equity holders (FCFE) through its investment

phase over last five years. As its plantations mature, the annual FCFE is expected to grow to

close to USD200m by the end of this decade. At our EV/EBITDA-based target price (discussed

below), the stock discounts a terminal growth of 3% at a relatively high cost of equity of 14%. In

our view, the DCF underpins the thesis that FR offers value for long-term investors. However,

the catalyst for the realisation of this value is likely to come only when the company starts

delivering sizable FCFE in 2017. In the near term, valuations are likely to be anchored to the

historical trading range and, consequently, we choose to establish our target price based on

EV/EBITDA.


20 January 2016

64

At our EV/EBITDA-based TP, the stock factors in a cost of equity above 14%

CoE 14.0% Terminal growth rate of FCFE 3.0% CPO Price - FOB Malaysia - USD/MT 566 656 688 708 729 751


EBITDA 225 304 372 408 419 432 Capex -137 -149 -143 -132 -120 -109 Δ Wkg. Cap. -23 -27 -2 0 -1 -1 Tax paid -63 -54 -70 -79 -81 -84 Interest paid -22 -26 -25 -25 -25 -24

FCFE -20 48 132 172 192 212

FCFE Yield % -0.8 2.0 5.8 7.5 8.3 9.1 PV of explicit FCFE (2015-20e) - USDm 465 PV of terminal value - USDm 1,939


FX (SGD/USD) 1.39



…relatively low cost structure makes earnings and stock less sensitive to CPO prices…

FR’s upstream focus with relatively low cost structure allows EBITDA margins of close to 50%.

This limits the sensitivity of its earnings to CPO prices compared to some of its low-margin

peers. A 1% change in our CPO price assumptions of USD656/tonne in 2016e and

USD688/tonne in 2017e would change our earnings estimates for FR by 2.5% for 2016e and

2% for 2017e. The relatively low sensitivity of FR’s earnings to CPO prices probably explains

why its share price has a relatively weak correlation with CPO prices. In our view, this reduces

FR’s attraction as a stock to participate in the CPO rally.

FR’s stock is not as highly correlated with CPO prices as it peers…


450

550

650

750

850

950

1050

1150

1.50

1.70

1.90

2.10

2.30

2.50

2.70


65


20 January 2016

…since FR’s earnings benefit from relatively lower costs and higher margins

Source: HSBC

…and trading range suggests there isn’t as much upside as in GGR; TP set at 2016e EV/EBITDA of 8.7x (2SD above 5-yr avg.)

Given the company’s strong growth profile, relatively young plantations, low cost structure and

modest level of leverage, one could argue that the stock deserves a premium valuation vs. its

peers. However, the stock’s history suggests that the market has a different opinion. In fact, FR

has generally traded at a discount to GGR, its closest peer listed in Singapore. Thus, even

though we set FR’s target price at two standard deviations above its five-year average one-year

forward EV/EBITDA, the target multiple of 8.7x is still at a 13% discount to the target multiple of

10x that we have assigned to its peer GGR. Applying our 2016 EBITDA forecast to this 8.7x

multiple, we derive a target price of SGD2.11. We initiate the stock with a Buy rating. At this

target price, the stock would be trading at a 2016e PE of 15.3x, which is more than two standard

deviations above its long-term average one-year forward PE of 10.7x.

First Resources has generally traded at a discount to GGR on one-year fwd. EV/EBITDA




its calculation will consistent with history. On the other hand, both earnings and book value are

set to contract due to IAS 16, skewing historical comparisons.

-25

-12

-5

5

12

25

-21

-11

-4

411

21

-30.0

-20.0

-10.0

0.0

10.0

20.0

30.0

-10% -5% -2% 0% 2% 5% 10%



4.0x

5.0x

6.0x

7.0x

8.0x

9.0x

10.0x

11.0x

Dec-08 Jul-09 Feb-10 Sep-10 Apr-11 Nov-11 Jun-12 Jan-13 Aug-13 Mar-14 Oct-14 May-15 Dec-15

GGR FR


20 January 2016

66

FR: Upside limited relative to historical one-year fwd. EV/EBITDA trading range


While the accounting change would result in lower earnings and book value, it would have no

impact on the company’s cash flows. As a result, we expect the PE and PB multiples for

Singapore-listed plantations stocks to rise.

We expect reported earnings growth of 30-35% y-o-y in 2016-17

The increase in depreciation due to the adoption of IAS 16 from 2016 is set to eat into the

company’s margin expansion below the EBITDA line, but we still expect earnings growth of 33%

y-o-y in 2016-17 driven by CPO price gains.

On the cost side, the IDR’s depreciation has arrested the decline in EBITDA in 2015 but further

savings would be difficult to achieve now that pre-EBITDA unit costs have reversed the cost

inflation of 2013. As RoE expands to 27% by 2017, the leverage is likely to inch down.

4.0x

5.0x

6.0x

7.0x

8.0x

9.0x

10.0x

Dec-10 Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15

FR -2σ -σ Avg. +σ +2σ

FR: One-year forward PE relative to historical average


3.0x

6.0x

9.0x

12.0x

15.0x

Mar-08 Nov-08 Jul-09 Mar-10 Nov-10 Jul-11 Mar-12 Nov-12 Jul-13 Mar-14 Nov-14 Jul-15


67


20 January 2016

Lower costs due to FX depreciation to boost RoE at lower CPO prices than past


P&L

USDm 2012 2013 2014 2015e 2016e 2017e

Plantation & Palm Oil mills 504 583 516 425 521 593 Refinery & Processing 243 203 406 265 341 367 Inter-segment elimination -144 -159 -307 -228 -283 -316

Revenue 603 626 616 463 579 644 y-o-y % 22.0 3.8 -1.8 -24.8 25.2 11.2 Inter-segment as % of Revenue 19.3 20.3 33.3 33.0 32.8 32.9

Plantation & Palm Oil mills 295 314 266 217 295 356 Refinery & processing 30 27 33 21 18 24 Others -2 -2 1 -12 -8 -8

EBITDA 323 339 300 225 304 372 y-o-y % 9.5 5.0 -11.6 -24.9 35.2 22.1

Plantation & Palm Oil mills 58.5 53.9 51.6 51.1 56.5 60.0 Refinery & processing 12.3 13.2 8.0 7.7 5.2 6.4

EBITDA Margin (%) 53.5 54.1 48.7 48.7 52.6 57.7 Operating Profit 298 311 269 195 242 305 y-o-y % 9.8 4.5 -13.6 -27.5 24.0 26.1 Operating Margin (%) 49.3 49.7 43.7 42.2 41.8 47.4 Exceptionals 48 21 -2 -7 0 0 EBIT 346 332 267 189 242 305 y-o-y % 11.6 -3.9 -19.6 -29.4 28.3 26.1 EBIT Margin (%) 57.3 53.0 43.4 40.8 41.8 47.4 Finance Costs -22 -22 -20 -25 -26 -25 Cost of debt (%) 4.8 4.3 3.8 4.4 5.0 5.0 Finance Income 2 4 5 3 1 1 Interest rate (%) 0.8 1.1 1.9 1.5 1.1 1.0 PBT 326 313 252 167 217 282 y-o-y % 16.8 -4.0 -19.6 -33.7 30.0 29.7 PBT Margin (%) 54.1 50.0 40.9 36.1 37.5 43.7 Tax -78 -67 -71 -44 -54 -70 Tax rate (%) 23.9 21.5 28.2 26.3 25.0 25.0 PAT 248 246 181 123 163 211 Minorities -11 -8 -7 -5 -5 -5 Net Profit 237 238 173 118 158 206 y-o-y % 22.1 0.4 -27.1 -32.0 33.7 30.6 Net Margin (%) 39.3 38.0 28.2 25.5 27.2 32.0 Wtd. Avg. Shares (m) 1,544 1,584 1,584 1,584 1,584 1,584 EPS Basic (USD) 0.15 0.15 0.11 0.07 0.10 0.13 EPS Basic (SGD) 0.19 0.19 0.14 0.10 0.14 0.18 y-o-y % 15.4 -2.0 -26.2 -26.2 35.2 30.6 DPS (SGD) 0.04 0.05 0.04 0.03 0.03 0.05 Dividend Payout (%) 21.1 24.0 25.3 25.6 25.0 25.0


863

1,078

937

761 745

566

656688

20.8

25.6 25.023.8

17.7

12.3

19.9

27.3

10.0

12.0

14.0

16.0

18.0

20.0

22.0

24.0

26.0

28.0

30.0

500

600

700

800

900

1,000

1,100

1,200

2010 2011 2012 2013 2014 2015 2016 2017

CPO price (FOB, Malaysia, USD/MT) RoE (%, RHS)


20 January 2016

68

Cash flow statement

USDm 2012a 2013a 2014a 2015e 2016e 2017e

PBT 326 313 252 167 217 282 Depreciation & amortisation 25 28 31 30 62 67 Net Interest Expense 19 19 15 22 25 23 Others -68 -49 5 -20 0 0 Wkg. Cap. Change -10 -16 11 -23 -27 -2 Interest received 2 3 5 3 1 1 Interest paid -25 -21 -19 -22 -26 -25 Income taxes paid -73 -76 -77 -63 -54 -70 CFO 196 200 223 94 198 276 Capex (PPE + Biological Assets) -209 -178 -210 -137 -149 -143 Proceeds from disposal of PPE & Biological Assets 2 0 0 0 0 0 Purchase/sales of subsidiary or associates -31 -70 0 -72 0 0 Other Investments 8 12 -4 0 0 0 CFI -230 -236 -215 -209 -149 -143 Dividends paid -48 -51 -58 -43 -25 -45 Issuance of stock 0 0 0 0 0 0 Repurchase of stock 0 0 0 -32 0 0 Debt repaid 0 -77 -3 -10 -37 -19 Debt issued 275 39 130 82 14 0 Other CFF 3 -20 -27 -70 0 0 CFF 231 -109 43 -73 -49 -64


As new plantings run at a slower rate than in the past and more plantations achieve maturity,

we expect the company’s capex intensity to accelerate and FCF to expand significantly by

2017. At our target price, the company’s FCFE yield would be 5-6% in 2017.

Balance Sheet

USDm 2012a 2013a 2014a 2015e 2016e 2017e

Inventories 58 59 49 102 129 126 Trade receivables 25 35 30 23 33 37 Restricted cash 13 33 59 162 162 162 Other current assets 60 44 46 60 60 60 Cash & bank balances 405 239 291 100 100 170 Current Assets 561 410 475 446 485 554 Biological assets 844 869 961 900 544 583 Plasma plantation receivables 44 28 59 54 54 54 PPE 321 303 338 344 388 427 Goodwill 33 73 61 79 78 76 Associates 0 0 0 0 0 0 Land use rights 41 43 46 38 38 38 Other non-current assets 87 53 57 59 59 59 Non-current assets 1,370 1,370 1,523 1,474 1,161 1,237 Trade payables 21 24 20 42 54 52 Other payables & accruals 38 35 37 31 31 31 ST Loans + Bonds Payable 40 3 11 39 39 39 Dividends payable 0 0 0 15 29 36 Other current liabilities 31 18 20 12 12 12 Current Liabilities 131 80 88 139 165 169 LT Borrowings + Bonds & notes payable 498 487 572 493 469 450 Other LT liabilities 196 219 274 331 281 281 LT Liabilities 694 706 846 823 749 731 Minority Interest 51 47 53 49 54 59 Shareholders’ Equity 1,055 947 1,011 909 678 832


69


20 January 2016


Volatility in CPO prices: Higher prices are better for earnings and multiples.




whereas CPO price trades as a USD-denominated commodity. The margin gains from USD

strength are most significant, if IDR weakness doesn’t spark cost inflation.



Regulatory tariffs: FR could be impacted either by the Indonesian export tax/levies or the

import duties at key importers like India.




20 January 2016

70

Financials & valuation: First Resources Buy Financial statements

Year to 12/2014a 12/2015e 12/2016e 12/2017e


Revenue 616 463 579 644

EBITDA 300 225 304 372


Operating profit/EBIT 269 195 242 305

Net interest -15 -22 -25 -23

PBT 252 167 217 282

HSBC PBT 254 174 217 282

Taxation -71 -44 -54 -70

Net profit 173 118 158 206



Cash flow from operations 223 94 198 276

Capex -210 -137 -149 -143

Cash flow from investment -215 -209 -149 -143

Dividends -58 -43 -25 -45

Change in net debt 15 38 -24 -88

FCF equity 14 0 49 133


Intangible fixed assets 107 118 116 114

Tangible fixed assets 1,359 1,298 986 1,064

Current assets 534 608 646 716

Cash & others 351 262 262 331

Total assets 2,057 2,082 1,807 1,953

Operating liabilities 352 415 377 375

Gross debt 583 532 508 489

Net debt 232 270 247 158

Shareholders’ funds 1,011 909 678 832



Year to 12/2014a 12/2015e 12/2016e 12/2017e

Y-o-y % change

Revenue -1.8 -24.8 25.2 11.2

EBITDA -11.6 -24.9 35.2 22.1


PBT -19.6 -33.7 30.0 29.7

HSBC EPS -19.3 -29.1 26.6 30.6

Ratios (%)

Revenue/IC (x) 0.5 0.3 0.5 0.6

ROIC 15.6 11.0 14.9 20.0

ROE 17.9 13.0 19.9 27.3

ROA 10.1 6.8 9.4 12.2

EBITDA margin 48.7 48.7 52.6 57.7



Net debt/equity 21.8 28.2 33.7 17.8




EPS Rep (diluted) 0.11 0.07 0.10 0.13

HSBC EPS (diluted) 0.11 0.08 0.10 0.13

DPS 0.03 0.02 0.02 0.03

Book value 0.64 0.57 0.43 0.53


Year to 12/2014a 12/2015e 12/2016e 12/2017e

Total planted (ha) 194,567 205,785 208,366 210,772

Mature planted nucleus (ha) 114,377 132,345 141,062 156,422

FFB Yield (MT/ha) 19 18 17 18

CPO produced (’000 MT) 631 713 714 786

CPO ASP (USD/MT) 745 566 656 688

pre-EBITDA cost (IDR ’000/ha) 17,839 15,767 17,311 17,938

Valuation data

Year to 12/2014a 12/2015e 12/2016e 12/2017e

EV/sales 3.5 4.8 3.8 3.3

EV/EBITDA 7.2 9.8 7.2 5.6

EV/IC 1.7 1.6 2.0 1.8

PE* 11.1 15.6 12.3 9.4

PB 1.9 2.1 2.9 2.3

FCF yield (%) 0.7 0.0 2.5 6.9

Dividend yield (%) 2.3 1.6 2.0 2.7


Issuer information


Target price (SGD) 2.11 Sector Agricultural Products

Reuters (Equity) FRLD.SI Country Singapore

Bloomberg (Equity) FR SP Analyst Shishir Singh


Price relative

Source: HSBC


1.30

1.50

1.70

1.90

2.10

2.30

2.50

2.70

1.30

1.50

1.70

1.90

2.10

2.30

2.50

2.70

2014 2015 2016 2017First Resources Rel to STRAITS TIMES INDEX

71


20 January 2016

A rising tide lifts all boats

Indofood Agri Resources (IFAR) is a leading vertically integrated player with a 40-45% market

share in Indonesia’s branded cooking oil market and over 330,000 ha of oil palm plantations,

predominantly in Riau and Sumatra. We initiate coverage on the stock with a target price of

SGD0.56 based on 2016e EV/EBITDA of 5.9x, which is 1.5 standard deviations above its five-

year average one-year forward EV/EBITDA.

Production likely to remain flat over the next two years: IFAR planted 14,000-16,000 ha per

year in 2010-13, but the new plantings slowed down to around 6,000 ha annually in 2014 and is

likely to come to only 2,000 ha in 2015. This limits the potential for future production growth at

IFAR’s relatively old plantations (which have an average age of around 14 years). Furthermore,

CPO production is likely to hold flat over 2016 due to tree stress and lower yields.

Still, high operating leverage makes earnings and stock sensitive to CPO prices:

Upstream plantation costs tend to be relatively fixed in nature with labour and fertiliser

accounting for bulk of the COGS. This allows for margin expansion in the event of price

increases. Thus, consolidated EBITDA margins are likely to recover to levels not seen since

2011. RoE is likely to recover to mid-single digits (%) in 2017, partly due to the application of a

new accounting rule (IAS 16), which would require equity to be written down from 1 January

2016. Despite having weaker return metrics than its peers, IFAR’s share price and earnings

have historically been highly leveraged to CPO prices; thus, we expect the stock to be a key

beneficiary of the expected rebound in CPO prices.

IFAR: Key operating metrics

2012a 2013a 2014a 2015e 2016e 2017e

Mature oil palm (ha) 176,105 177,099 185,181 196,128 205,130 211,264 y-o-y % 11.3 0.6 4.6 5.9 4.6 3.0 FFB Yield (t/ha) 16.9 16.3 17.6 17.0 16.2 17.4 CPO Yield (%) 21.4 21.5 21.9 21.4 21.2 21.1 CPO production (’000 tonnes) 829 864 957 901 881 1,003 PKO production (’000 tonnes) 202 190 193 230 233 286 EBITDA Margin 23.7 19.7 23.5 18.6 23.2 26.2 Capex/Sales 14.8 16.8 14.5 14.0 8.9 8.2


Indofood Agri (IFAR)

IFAR is a leading vertically integrated player with a dominant position

in Indonesia’s branded cooking oil market

With ageing plantations and relatively high costs, IFAR is not the best

placed palm player but still a key beneficiary of rising CPO prices

Initiate at Buy with a TP of SGD0.56, based on 2016e EV/EBITDA of

5.9x, 1.5SD above the 5-year average


20 January 2016

72

Vertically integrated operations focused on Indonesia

Indofood Agri Resources (IFAR) is a vertically integrated agribusiness group. Its activities range

from oil palm seed breeding, oil palm cultivation and milling to downstream operations like

refining, branding and marketing of cooking oil, margarine, shortening and other palm oil

derivatives. It has a market share of 40-45% in Indonesia’s branded cooking oil (Bimoli) and

shortening and margarine (Palmia) markets.

Indofood Agri Resources (IFAR) is a vertically integrated company based in Indonesia

Source: Company

IFAR also engages in the cultivation of other crops, such as rubber, sugar cane, cocoa and tea,

which account for c18% of its total self-owned planted area of around 300,000 ha. IFAR’s first

venture into sugarcane was in 2008 when it acquired Laju Perdana Indah. In 2013, it followed

that with the acquisition of a 50% stake in CMAA (Brazil) and a 10% stake in RHI (Philippines,

ROX PM, Not Rated). The downstream operations include a 1.4MT per annum of refining

capacity as well as the branded cooking oil business. IFAR acquired London Sumatra (LSIP IJ,

Not Rated) in November 2007 and the downstream operations have since been self-sufficient in

their CPO requirements.

For reporting purposes, the business consists of an upstream plantations segment and a

downstream edible oils and fats segment. Although the upstream and downstream segments

have similar levels of revenue, the plantations segment, particularly from dominant palm oil

plantations, accounts for 85-95% of the company’s EBITDA.

Segment-wise revenue (IDRtrn) Segment-wise EBITDA (IDRtrn)

Source: Company, HSBC estimates Source: Company, HSBC estimates

Seed breeding End ProductsCPO RefiningPalm oil millOil palm

plantations

Annual capability

33mn seedsPlantation estates

- Planted 246,055

Ha

Fruit Bunches

(FFB)

- Capacity 6.4mn

tons/yr

Number of mills

- 6 in Riau

- 7 in South

Sumatra

- 4 in North

Sumatra

- 7 in Kalimantan

2014 Production

956,000 MT Crude

Palm Oil & 218,000

MT Palm Kernel Oil

Refining capacity

1.4MT/yr

- Cooking oil

- Margarine

- Shortening

Plantation Business Edible oils & fats business

8.5

10.3

8.6 9.510.7

8.6 9.88.5

10.010.9

2013 2014 2015e 2016e 2017e

Plantations Edible Oils

2.3

3.2

2.2

3.2

4.0

0.40.2 0.2

0.3 0.3

2013 2014 2015e 2016e 2017e

Plantations Edible Oils

73


20 January 2016

Slower growth in acreage ahead

Given the weak CPO prices as well as dry weather in 2015, IFAR is likely to slow its new

plantings to a pace of around 2,000 ha per year in the near term from 14,000-16,000 ha per

year in 2010-13. The guidance has previously been around 5,000 ha per year, which is what

IFAR continues to guide following a recovery from the current conditions. The company has a

land bank of 40,000 ha, of which 25,000 ha are plantable and the rest is for the Plasma

scheme. Despite lower new plantings, maturing plantations (currently totalling 58,000 ha) and

downstream capacities required to process the output are likely to keep IFAR’s capex. We

expect the company’s capex to run at a pace of IDR2.4trn per year over the next two years

compared with a pace of around IDR3.3trn per year in the recent past.

Distribution of planted area in Indonesia (ha)

2012a 2013a 2014a

Riau 57,025 57,025 57,025 North Sumatra 39,360 39,326 39,321 South Sumatra 87,160 89,819 93,562 West Sumatra 28,493 28,478 28,997 East Sumatra 42,026 46,433 64,458 Central Kalimantan 6,128 7,410 8,756 Java 2,864 2,864 2,865 Sulawesi 5,669 5,354 5,066 Total 268,725 276,709 300,050

Source: HSBC

Most of IFAR’s plantations are situated in the Indonesian provinces of Riau and Sumatra.

IFAR oil palm plantations

Source: HSBC

Ownership: listing of subsidiary has not hurt valuations as much

IFAR is an indirect subsidiary of First Pacific (142 HK, HKD5.08, Buy), the Hong Kong-listed

conglomerate. First Pacific owns 50.1% of Jakarta-listed Indofood Sukses Makmur (INDF IJ,

IDR 5,300, Buy), which in turn owns 60.5% of the company (2.7% direct and the rest through

83.8% owned Indofood Singapore Holdings).

Accounting for the partial ownership in Jakarta-listed Salim Ivomas and London Sumatra, IFAR

shareholders effectively own around 150,000 ha or 61% of 246,000 ha of oil palm plantations.

-

Malaysia

– –

-

-

-

-Malaysia


20 January 2016

74

IFAR ownership

Source: Company

IFAR’s premium to its palm oil subsidiary has expanded in recent times


IFAR’s stock price traded below the market cap of Salim Ivomas (SIMP IJ, Not Rated), its palm

oil subsidiary, following the latter’s Jakarta IPO in 2011. However, this isn’t true anymore,

possibly due to better liquidity of Singapore-listed IFAR.

CPO price-driven RoE recovery despite production decline

We expect IFAR’s CPO production to fall next year due to a decline in yields. The company has

already lowered 2015 FFB output guidance by 100,000 tonnes to 3.3MT from 3.4MT due to

severe dry weather earlier this year. According to the company, North Sumatra was the worst hit

with materially lower rainfall throughout the year whereas other estates have been under stress

Indofood Agri

Resources

CMAA

(Brazil Sugarcane)

Salim Ivomas

(SIMP IJ)

London Sumatra

(LSIP IJ)

Indofood Sukses

Makmur (INDF IJ)

CAB Hldgs.

(First Pacific)

50.1%

60.5%

6.5%

73.5%

59.5%

50.0%

50%

60%

70%

80%

90%

100%

110%

120%

Jun-11 Oct-11 Feb-12 Jun-12 Oct-12 Feb-13 Jun-13 Oct-13 Feb-14 Jun-14 Oct-14 Feb-15 Jun-15 Oct-15

% of IFAR's market cap explained by Salim Ivomas stake

75


20 January 2016

since mid-2015. Going forward, this is likely to hurt yields, which may drop by c20% y-o-y in

1Q16. While the company expects the output to recover in the latter part of the year, it expects

the decline yet again in 2017 due to the lagged impact of this year’s rainfall deficit.

Consequently, we expect CPO production to decline by 3% y-o-y in 2016 and rise only modestly

by 4% y-o-y in 2017 despite the increase in mature acreage.

Key earnings drivers

2012a 2013a 2014a 2015e 2016e 2017e

CPO production y-o-y % 5.0 -8.0 18.0 2.2 -1.9 9.8 ASP y-o-y % -7.4 -13.3 -3.4 -20.5 10.5 -1.0 Revenue y-o-y % 9.8 -4.1 12.7 -10.3 10.2 10.2 Plantation EBITDA Margin % 31.0 26.8 31.3 25.6 33.4 37.4 Edible Oils EBITDA Margin % 5.4 4.6 2.0 2.7 2.6 2.5 Operating Profit y-o-y % -18.6 -31.8 47.5 -44.9 38.2 36.6 EPS, Adjusted (IDR) 702 486 572 242 298 572 EPS, Adjusted y-o-y % -11.5 -31.6 17.8 -57.8 23.5 91.8


Despite the fall in production and a relatively fixed cost structure, we believe that the jump in

prices would be enough to deliver a strong rebound from cyclical lows of earnings in 2015. We

expect the company’s RoE to rebound from an estimated 2.5% in 2015 to 6.1% in 2017. The

leverage during this time, however, would continue remain flat due to company’s capex outlay.

Our 2016 EBITDA estimates are in line with the Street but EPS lower

Singapore-listed plantation companies will adopt IAS 16 for accounting of biological assets from

1 January 2016. The new standard requires biological assets classified as bearer plants to be

accounted for like property, plant and equipment (PPE) and be depreciated as such. So far,

these assets were recorded at DCF-based fair values less costs to sell under IAS 41.



charged for mature plantations. We expect IFAR’s biological assets and equity value to be

written down by IDR3trn and IDR2.5trn, respectively, in the quarter ending March 2016. We also

expect IFAR’s annual depreciation to rise by approximately IDR375bn in 2016 once the new

rule is adopted.

Consensus has probably not adjusted the numbers fully to account for depreciation and this is

probably what explains the difference between our 2016-17 EPS forecast and that of the Street

despite our EBITDA forecasts being relatively in line with the Street’s.


___________ HSBC ____________ _________ Consensus _________ ____ HSBC vs. consensus ______ IDRbn 2015e 2016e 2017e 2015e 2016e 2017e 2015e 2016e 2017e

Sales 13,421 14,794 16,310 14,432 15,969 17,571 -7.0 -7.4 -7.2 EBITDA 2,495 3,435 4,281 2,851 3,478 3,995 -12.5 -1.2 7.1 Net Profit 61 423 811 641 806 1,002 -90.5 -47.5 -19.0


IFAR’s earnings and stock are highly sensitive to CPO price

Investors must note the relatively high correlation between IFAR’s stock and CPO price. This is not

without reason. A 1% change in our CPO price assumptions of USD656/tonne in 2016e and

USD688/tonne in 2017e would change our IFAR’s earnings estimate by 10% and 5.5%, respectively.


20 January 2016

76

IFAR’s stock price has had a correlation of 0.85x with CPO prices since end-2011


IFAR’s earnings change by 6-10% for every 1% change in CPO

Source: HSBC

TP set at 2016e EV/EBITDA of 5.9x (1.5SD above 5-yr avg.)

Despite a weak returns profile, we believe that IFAR’s stock would trade close to its cyclical

peak once the CPO upcycle takes off. Relative to its own history, the stock has generally traded

within one standard deviation of its five-year average one-year forward EV/EBITDA of 4.2x.

450

600

750

900

1,050

1,200

0.40

0.60

0.80

1.00

1.20

1.40

1.60

1.80


IFAR (SGD, LHS) CPO price (USD/MT, RHS)

-102

-50-20

020

50

100

-57-28

-11

0 1128

55

-150.0

-100.0

-50.0

0.0

50.0

100.0

150.0

-10% -5% -2% 0% 2% 5% 10%



IFAR’s one-year forward EV/EBITDA peaked at around 5.9x in mid-2014


2.0x

3.0x

4.0x

5.0x

6.0x

7.0x

8.0x

9.0x


IFAR -2σ -σ Avg. +σ +2σ

77


20 January 2016

However, it has powered through this level on the upside in the case of a strong CPO price

recovery. Given our forecast of a rebound in CPO prices in 2016-17, we think that the stock is

likely to trade closer to its recent peak than within its typical range. Consequently, we establish

our target price of SGD0.56 based on a one-year forward EV/EBITDA of 5.9x, which is 1.5

standard deviations above the five-year average of this metric and close to its peak one-year

forward EV/EBITDA in the recent past. With our target price set at SGD0.56, we initiate a Buy

rating on the stock.



the calculation EBITDA will remain consistent with history. On the other hand, both earnings

and book value are set to contract due to IAS 16, skewing historical comparisons.

While the accounting change will result in lower earnings and book value, it would have no

impact on the company’s cash flows. As a result, we expect PE and PB multiples for Singapore-

listed plantations stocks to rise. Indeed, our target price implies a 2016e PE of 18.4x, which is

more than two standard deviations (17.6x) above the five-year average one-year forward PE.

IFAR: One-year forward PE relative to historical average


IFAR: Long-term one-year forward PE trading band on consensus estimates


0.0x

2.0x

4.0x

6.0x

8.0x

10.0x

12.0x

14.0x

16.0x

18.0x

20.0x



0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

4.00


P 8.0x 10.0x 12.0x 14.0x 16.0x

IAS 16 adoption leaves only

EV/EBITDA consistent with

history but PE/PB would be

higher as EPS/BV decline


20 January 2016

78

TP discounts CPO price of USD700-750/tonne at CoE of 15.7%

Since historical PE and PB trading range are likely to be less relevant in assessing the fair value

of the stock after IAS 16 adoption, we back-test our EV/EBITDA-based target price using a DCF

methodology. Our medium-term forecasts for CPO price (FOB, Malaysia) are in the range of

USD700-750/tonne and we estimate that these would generate a FCFE yield of 7-10% at our

target price of SGD0.56. In other words, our target price discounts CPO price of USD700-

750/tonne at a relatively high cost of equity of almost 16%. Such a modest cost of equity implies

there is upside to what may be considered a conservative EV/EBITDA-based valuation,

particularly due to the stock’s high correlation to CPO prices.

DCF discounts our CPO price & FCFE forecasts at relatively high CoE of 15.7%

CoE 15.7% Terminal growth rate of FCFE 0.0% CPO Price - FOB Malaysia - USD/tonne 567 656 688 708 729 751


EBITDA 2,508 3,435 4,281 4,790 5,159 5,612 Capex -2,939 -2,336 -2,419 -2,548 -2,700 -2,868 Δ Wkg. Cap. 992 -389 31 -89 -115 -138 Tax paid -684 -418 -582 -724 -811 -921 Interest paid, Net -593 -679 -677 -655 -636 -618

FCFE -716 -388 633 774 897 1,066

FCFE Yield % -6.7 -3.4 5.8 7.3 8.7 10.3 PV of explicit FCFE (2015-20e) - USDm 936 PV of terminal value - USDm 6,791


FX (SGD/USD) 9,784



Cash flow statement

IDRbn 2012a 2013a 2014a 2015e 2016e 2017e

PBT 2,464 1,338 2,009 374 1,223 2,080 Depreciation & Amortization 590 783 813 1,002 1,372 1,463 Net Interest Expense 267 354 529 591 680 678 Others/Wkg. Cap. -117 773 663 477 -238 91 Interest received 269 185 234 122 94 95 Interest paid -524 -518 -734 -715 -774 -773 Income tax paid -820 -749 -725 -681 -418 -582 CFO 2,128 2,166 2,790 1,171 1,939 3,051 Capex -3,144 -3,369 -3,418 -2,938 -2,336 -2,419 Investment in Associates/JVs -171 -978 -151 -836 0 0 Others -162 -484 -145 438 0 0 CFI -3,477 -4,830 -3,714 -3,336 -2,336 -2,419 Dividends paid -32 -96 -68 -72 -99 -99 Minority dividends -386 -292 -177 -246 -39 -165 Stocks issued 0 0 0 0 0 0 Stocks bought back -43 0 0 -152 0 0 Other Financing 57 -83 -61 505 0 0 Debt repaid -2,040 -3,116 -2,838 -3,521 -134 -706 Debt issued 1,560 4,707 3,833 3,872 669 338 CFF -884 1,119 690 385 397 -633


The company’s net debt is likely to decline after 2016 as cash flows from operations rise to a

level to exceed capex and dividend payout.

79


20 January 2016

Balance sheet

IDRbn 2012 2013 2014 2015e 2016e 2017e Cash and equivalents 5,082 3,803 3,586 1,900 1,900 1,900 Trade and other receivables 1,223 1,140 1,056 1,255 1,613 1,599 Inventories 1,889 1,568 1,773 2,313 2,954 2,919 Prepaid taxes 123 134 231 343 343 343 Short term investments 0 293 166 319 319 319 Total current assets 8,318 6,938 6,812 6,130 7,130 7,081 Property, plant and equipment 8,461 9,781 11,027 11,532 11,989 12,593 Biological assets 12,586 13,893 15,061 15,930 13,277 13,628 Other non-current assets 5,447 7,093 7,255 7,939 7,779 7,719 Total non-current assets 26,493 30,767 33,342 35,400 33,044 33,940 Interest-bearing loans and borrowings 2,664 4,490 4,749 6,151 6,151 6,151 Trade payables and accruals 1,854 1,937 2,058 2,078 2,680 2,661 Income taxes payable + others 92 77 144 449 449 552 Total current liabilities 4,609 6,504 6,951 8,678 9,279 9,364 Interest-bearing loans and borrowings 4,116 4,305 5,068 4,572 5,107 4,738 Others 3,258 4,062 4,418 4,546 4,046 4,046 Total non-current liabilities 7,374 8,367 9,486 9,118 9,153 8,784 Shareholders’ Equity 13,796 14,007 14,629 14,113 11,778 12,386 Minority interests 9,032 8,826 9,088 9,622 9,965 10,486


IFAR: P&L

IDRbn 2012a 2013a 2014a 2015e 2016e 2017e Plantations 8,388 8,450 10,278 8,644 9,523 10,721 y-o-y % -1.1 0.7 21.6 -15.9 10.2 12.6 Edible oils & fats 9,561 8,627 9,835 8,462 9,979 10,904 y-o-y % 5.4 -9.8 14.0 -14.0 17.9 9.3 Eliminations -4,105 -3,798 -5,149 -3,685 -4,708 -5,316

Total revenue 13,845 13,279 14,964 13,421 14,794 16,310 y-o-y % 9.8 -4.1 12.7 -10.3 10.2 10.2 Cost of Sales -9,658 -10,076 -10,595 -10,377 -11,080 -11,699 Gross Profit 4,187 3,203 4,369 3,043 3,714 4,611 Gross margin (%) 30.2 24.1 29.2 22.7 25.1 28.3 y-o-y % -9.0 -23.5 36.4 -30.3 22.0 24.2 EBITDA (Co. Reported excl. gains/(loss) from FX & biological assets) 3,224 2,609 3,401 2,160 3,275 4,221

includes JV & Associate contribution -37 -6 -121 -246 -160 -60 Plantations 2,600 2,263 3,212 2,216 3,177 4,005 Edible oils & fats 515 393 200 226 257 276 Eliminations 109 -41 110 -36 0 0

Others 0 0 0 0 0 0 Plantation EBITDA margin% 31.0 26.8 31.3 25.6 33.4 37.4 Edible oils & fats margin% 5.4 4.6 2.0 2.7 2.6 2.5 Operating Profit 2,693 1,836 2,709 1,493 2,062 2,818 Operating margin % 19.4 13.8 18.1 11.1 13.9 17.3 y-o-y % -18.6 -31.8 47.5 -44.9 38.2 36.6 JV and Associates -37 -6 -121 -246 -160 -60 Forex gains/(losses) 19 -201 -111 -282 0 0 Gains from sale of Biological assets 56 62 60 0 0 0 EBIT 2,731 1,691 2,538 965 1,902 2,758 EBIT margin % 19.7 12.7 17.0 7.2 12.9 16.9 y-o-y % -18.6 -38.1 50.0 -62.0 97.1 45.0 Financial income 249 185 228 118 94 95 Interest rate% 3.8 3.6 6.0 3.3 5.0 5.0 Financial expenses -516 -539 -757 -709 -774 -773 Interest rate% 7.1 8.0 8.6 7.2 7.2 6.9 Others income/(expenses) 0 0 0 0 0 0 PBT 2,464 1,338 2,009 374 1,223 2,080 Tax -596 -380 -679 -224 -418 -582 Tax rate % 24.2 28.4 33.8 59.8 34.2 28.0 PAT 1,868 958 1,330 150 805 1,498 Minorities -786 -408 -569 -90 -382 -686 Net Profit 1,082 549 760 61 423 811 Net Margin % 7.8 4.1 5.1 0.5 2.9 5.0 y-o-y % -8.6 -49.2 38.4 -92.0 597.3 91.8 Net Profit Adjusted 1,007 689 811 342 423 811 Net Margin Adjusted % 7.3 5.2 5.4 2.6 2.9 5.0 y-o-y % -11.5 -31.6 17.8 -57.8 23.5 91.8 Basic EPS (IDR) 754 388 536 43 298 572 DPS (IDR) 95.6 67.8 71.9 70.0 70.0 143.1 Payout (%) - on adjusted income 13.6 14.0 12.6 29.0 23.5 25.0



20 January 2016

80


Volatility in CPO prices: Higher prices are better for earnings and multiples




whereas CPO price trades as a USD-denominated commodity. The margin gains from USD

strength are most significant, if IDR weakness doesn’t spark cost inflation.



Regulatory tariffs: IFAR primarily sells its products in Indonesia so it is not directly

impacted either by either the Indonesian export tax/levies or the import duties imposed in

key markets, like India. However, an indirect impact cannot be ruled out. Higher cross-

border tariffs increase competition in higher margin local market.



81


20 January 2016

Financials & valuation: Indofood Agri Resources Buy Financial statements

Year to 12/2014a 12/2015e 12/2016e 12/2017e

Profit & loss summary (IDRbn)

Revenue 14,964 13,421 14,794 16,310

EBITDA 3,523 2,495 3,435 4,281

Depreciation & amortisation -813 -1,002 -1,372 -1,463

Operating profit/EBIT 2,709 1,493 2,062 2,818

Net interest -529 -591 -680 -678

PBT 2,009 374 1,223 2,080

HSBC PBT 1,490 566 841 1,394

Taxation -679 -224 -418 -582

Net profit 760 61 423 811


Cash flow summary (IDRbn)

Cash flow from operations 2,790 1,171 1,939 3,051

Capex -3,418 -2,938 -2,336 -2,419

Cash flow from investment -3,714 -3,336 -2,336 -2,419

Dividends -68 -72 -99 -99

Change in net debt 1,240 2,591 535 -368

FCF equity 552 -256 -397 633

Balance sheet summary (IDRbn)

Intangible fixed assets 3,254 3,254 3,254 3,254


Current assets 6,812 6,130 7,130 7,081

Cash & others 3,586 1,900 1,900 1,900

Total assets 40,155 41,530 40,175 41,021


Gross debt 9,817 10,722 11,257 10,889

Net debt 6,232 8,822 9,357 8,989




Year to 12/2014a 12/2015e 12/2016e 12/2017e

Y-o-y % change

Revenue 12.7 -10.3 10.2 10.2

EBITDA 34.5 -29.2 37.7 24.6

Operating profit 47.5 -44.9 38.2 36.6

PBT 50.2 -81.4 226.6 70.1

HSBC EPS 17.8 -57.8 23.5 91.8

Ratios (%)

Revenue/IC (x) 0.5 0.4 0.5 0.5

ROIC 6.3 2.0 4.5 6.8

ROE 5.7 2.4 3.3 6.7

ROA 4.7 1.1 3.2 5.1

EBITDA margin 23.5 18.6 23.2 26.2



Net debt/equity 26.3 37.2 43.0 39.3



Per share data (IDR)

EPS Rep (diluted) 536.40 42.79 298.42 572.36

HSBC EPS (diluted) 572.34 241.55 298.42 572.36

DPS 71.87 70.00 70.00 143.09

Book value 10321.65 9958.06 8310.15 8739.42


Year to 12/2014a 12/2015e 12/2016e 12/2017e

Mature planted area (ha) 185,181 196,128 205,130 211,264

CPO production (’000 tonnes) 956 977 959 1,053

PKO production (’000 tonnes) 241 281 265 309

Plantation EBITDA Margin (%) 31 26 33 37

Edible Oils & Fats EBITDA Marg (%) 2 3 3 3

Biological Asset Value/ha (USD) 3,822 3,539 2,877 2,919

Valuation data

Year to 12/2014a 12/2015e 12/2016e 12/2017e

EV/sales 1.2 1.5 1.4 1.3

EV/EBITDA 5.3 8.1 6.1 4.9

EV/IC 0.6 0.7 0.7 0.7

PE* 7.7 18.2 14.7 7.7

PB 0.4 0.4 0.5 0.5

FCF yield (%) 4.5 -2.3 -3.4 5.2

Dividend yield (%) 1.6 1.6 1.6 3.3


Issuer information


Target price (SGD) 0.56 Sector Food & Staples Retailing

Reuters (Equity) IFAR.SI Country Indonesia

Bloomberg (Equity) IFAR SP Analyst Shishir Singh

Market cap (USDm) 457 Contact +852 2822 4292

Price relative

Source: HSBC


0.37

0.47

0.57

0.67

0.77

0.87

0.97

1.07

1.17

0.37

0.47

0.57

0.67

0.77

0.87

0.97

1.07

1.17

2014 2015 2016 2017Indofood Agri Resources Rel to STRAITS TIMES INDEX


20 January 2016

82

Notes

83


20 January 2016

Notes


20 January 2016

84

Notes

85


20 January 2016

Disclosure appendix

Analyst Certification

The following analyst(s), economist(s), and/or strategist(s) who is(are) primarily responsible for this report, certifies(y) that the

opinion(s) on the subject security(ies) or issuer(s) and/or any other views or forecasts expressed herein accurately reflect their

personal view(s) and that no part of their compensation was, is or will be directly or indirectly related to the specific

recommendation(s) or views contained in this research report: Shishir Singh

Important disclosures

Equities: Stock ratings and basis for financial analysis

HSBC believes an investor's decision to buy or sell a stock should depend on individual circumstances such as the investor's

existing holdings, risk tolerance and other considerations and that investors utilise various disciplines and investment horizons

when making investment decisions. Ratings should not be used or relied on in isolation as investment advice. Different

securities firms use a variety of ratings terms as well as different rating systems to describe their recommendations and

therefore investors should carefully read the definitions of the ratings used in each research report. Further, investors should

carefully read the entire research report and not infer its contents from the rating because research reports contain more

complete information concerning the analysts' views and the basis for the rating.

From 23rd March 2015 HSBC has assigned ratings on the following basis:

The target price is based on the analyst’s assessment of the stock’s actual current value, although we expect it to take six to 12

months for the market price to reflect this. When the target price is more than 20% above the current share price, the stock will

be classified as a Buy; when it is between 5% and 20% above the current share price, the stock may be classified as a Buy or a

Hold; when it is between 5% below and 5% above the current share price, the stock will be classified as a Hold; when it is

between 5% and 20% below the current share price, the stock may be classified as a Hold or a Reduce; and when it is more

than 20% below the current share price, the stock will be classified as a Reduce.

Our ratings are re-calibrated against these bands at the time of any 'material change' (initiation or resumption of coverage,

change in target price or estimates).

Upside/Downside is the percentage difference between the target price and the share price.

Prior to this date, HSBC’s rating structure was applied on the following basis:

For each stock we set a required rate of return calculated from the cost of equity for that stock’s domestic or, as appropriate,

regional market established by our strategy team. The target price for a stock represented the value the analyst expected the

stock to reach over our performance horizon. The performance horizon was 12 months. For a stock to be classified as

Overweight, the potential return, which equals the percentage difference between the current share price and the target price,

including the forecast dividend yield when indicated, had to exceed the required return by at least 5 percentage points over the

succeeding 12 months (or 10 percentage points for a stock classified as Volatile*). For a stock to be classified as Underweight,

the stock was expected to underperform its required return by at least 5 percentage points over the succeeding 12 months (or

10 percentage points for a stock classified as Volatile*). Stocks between these bands were classified as Neutral.

*A stock was classified as volatile if its historical volatility had exceeded 40%, if the stock had been listed for less than 12

months (unless it was in an industry or sector where volatility is low) or if the analyst expected significant volatility. However,

stocks which we did not consider volatile may in fact also have behaved in such a way. Historical volatility was defined as the

past month's average of the daily 365-day moving average volatilities. In order to avoid misleadingly frequent changes in rating,

however, volatility had to move 2.5 percentage points past the 40% benchmark in either direction for a stock's status to change.


20 January 2016

86

Rating distribution for long-term investment opportunities

As of 20 January 2016, the distribution of all ratings published is as follows:

Buy 47% (31% of these provided with Investment Banking Services)

Hold 39% (29% of these provided with Investment Banking Services)

Sell 14% (18% of these provided with Investment Banking Services)

For the purposes of the distribution above the following mapping structure is used during the transition from the previous to

current rating models: under our previous model, Overweight = Buy, Neutral = Hold and Underweight = Sell; under our current

model Buy = Buy, Hold = Hold and Reduce = Sell. For rating definitions under both models, please see “Stock ratings and basis

for financial analysis” above.

Share price and rating changes for long-term investment opportunities

Indofood Agri Resources (IFAR.SI) share price

performance SGD Vs HSBC rating history

Rating & target price history

From To Date

Underweight Neutral 06 February 2013 Neutral Underweight 15 August 2013 Underweight Neutral 09 October 2014 Neutral Overweight 26 January 2015 Overweight Buy 31 March 2015 Buy N/A 12 May 2015

Target price Value Date

Price 1 1.41 06 February 2013 Price 2 0.72 15 August 2013 Price 3 0.69 18 September 2013 Price 4 0.76 28 January 2014 Price 5 0.81 03 March 2014 Price 6 0.93 08 June 2014 Price 7 0.86 09 October 2014 Price 8 0.90 19 October 2014 Price 9 0.85 26 January 2015 Price 10 0.84 27 February 2015 Price 11 0.89 31 March 2015 Price 12 N/A 12 May 2015 Source: HSBC

Source: HSBC

First Resources (FRLD.SI) share price performance SGD

Vs HSBC rating history


From To Date

Overweight Buy 31 March 2015 Buy N/A 12 May 2015


Price 1 2.74 06 February 2013 Price 2 2.67 27 February 2013 Price 3 2.28 18 September 2013 Price 4 2.47 13 November 2013 Price 5 2.72 28 January 2014 Price 6 2.75 25 February 2014 Price 7 2.92 08 June 2014 Price 8 2.54 13 August 2014 Price 9 2.45 19 October 2014 Price 10 2.31 13 November 2014 Price 11 2.41 26 January 2015 Price 12 2.37 26 February 2015 Price 13 2.35 31 March 2015 Price 14 N/A 12 May 2015 Source: HSBC

Source: HSBC

0

0.5

1

1.5

2

2.5

3

Jan-

11

Jan-

12

Jan-

13

Jan-

14

Jan-

15

Jan-

16

0

0.5

1

1.5

2

2.5

3

Jan-

11

Jan-

12

Jan-

13

Jan-

14

Jan-

15

Jan-

16

87


20 January 2016

Wilmar International (WLIL.SI) share price performance

SGD Vs HSBC rating history


From To Date

Underweight Neutral 28 January 2014 Neutral Hold 24 March 2015 Hold N/A 12 May 2015


Price 1 3.36 06 February 2013 Price 2 3.25 08 May 2013 Price 3 2.96 18 September 2013 Price 4 3.17 07 November 2013 Price 5 3.49 28 January 2014 Price 6 3.60 20 February 2014 Price 7 3.46 11 May 2014 Price 8 3.35 10 August 2014 Price 9 3.26 19 October 2014 Price 10 3.46 26 January 2015 Price 11 3.39 12 February 2015 Price 12 3.29 24 March 2015 Price 13 N/A 12 May 2015 Source: HSBC

Source: HSBC

Golden Agri-Resources (GAGR.SI) share price

performance SGD Vs HSBC rating history


From To Date

Neutral Overweight 06 February 2013 Overweight Neutral 04 August 2013 Neutral Underweight 12 November 2013 Underweight Overweight 28 January 2014 Overweight Neutral 14 August 2014 Neutral Hold 01 April 2015 Hold N/A 12 May 2015


Price 1 0.75 06 February 2013 Price 2 0.69 13 May 2013 Price 3 0.59 04 August 2013 Price 4 0.58 18 September 2013 Price 5 0.55 12 November 2013 Price 6 0.65 28 January 2014 Price 7 0.67 03 March 2014 Price 8 0.58 14 August 2014 Price 9 0.53 19 October 2014 Price 10 0.46 26 January 2015 Price 11 0.43 01 April 2015 Price 12 N/A 12 May 2015 Source: HSBC

Source: HSBC

2

3

4

5

6

7

8

Jan-

11

Jan-

12

Jan-

13

Jan-

14

Jan-

15

Jan-

16

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

Jan-

11

Jan-

12

Jan-

13

Jan-

14

Jan-

15

Jan-

16


20 January 2016

88

HSBC & Analyst disclosures

Disclosure checklist

Company Ticker Recent price Price date Disclosure

GOLDEN AGRI-RESOURCES GAGR.SI 0.36 19-Jan-2016 6

INDOFOOD AGRI

RESOURCES

IFAR.SI 0.44 19-Jan-2016 2

WILMAR INTERNATIONAL WLIL.SI 2.78 19-Jan-2016 2, 5, 6

Source: HSBC

1 HSBC has managed or co-managed a public offering of securities for this company within the past 12 months.

2 HSBC expects to receive or intends to seek compensation for investment banking services from this company in the next 3

months.

3 At the time of publication of this report, HSBC Securities (USA) Inc. is a Market Maker in securities issued by this company.

4 As of 31 December 2015 HSBC beneficially owned 1% or more of a class of common equity securities of this company.

5 As of 30 November 2015, this company was a client of HSBC or had during the preceding 12 month period been a client of

and/or paid compensation to HSBC in respect of investment banking services.


and/or paid compensation to HSBC in respect of non-investment banking securities-related services.


and/or paid compensation to HSBC in respect of non-securities services.

8 A covering analyst/s has received compensation from this company in the past 12 months.

9 A covering analyst/s or a member of his/her household has a financial interest in the securities of this company, as

detailed below.

10 A covering analyst/s or a member of his/her household is an officer, director or supervisory board member of this

company, as detailed below.

11 At the time of publication of this report, HSBC is a non-US Market Maker in securities issued by this company and/or in

securities in respect of this company

HSBC and its affiliates will from time to time sell to and buy from customers the securities/instruments (including derivatives) of

companies covered in HSBC Research on a principal or agency basis.

Analysts, economists, and strategists are paid in part by reference to the profitability of HSBC which includes investment

banking revenues.

Whether, or in what time frame, an update of this analysis will be published is not determined in advance.

Economic sanctions imposed by the EU and OFAC prohibit transacting or dealing in new debt or equity of Russian SSI entities.

This report does not constitute advice in relation to any securities issued by Russian SSI entities on or after July 16 2014 and as

such, this report should not be construed as an inducement to transact in any sanctioned securities.

For disclosures in respect of any company mentioned in this report, please see the most recently published report on that

company available at www.hsbcnet.com/research.

Additional disclosures

1 This report is dated as at 20 January 2016.

2 All market data included in this report are dated as at close 15 January 2016, unless otherwise indicated in the report.

3 HSBC has procedures in place to identify and manage any potential conflicts of interest that arise in connection with its

Research business. HSBC's analysts and its other staff who are involved in the preparation and dissemination of Research

operate and have a management reporting line independent of HSBC's Investment Banking business. Information Barrier

procedures are in place between the Investment Banking and Research businesses to ensure that any confidential and/or

price sensitive information is handled in an appropriate manner.

89


20 January 2016

Disclaimer

Legal entities as at 30 May 2014

‘UAE’ HSBC Bank Middle East Limited, Dubai; ‘HK’ The Hongkong and Shanghai Banking Corporation Limited, Hong

Kong; ‘TW’ HSBC Securities (Taiwan) Corporation Limited; 'CA' HSBC Bank Canada, Toronto; HSBC Bank, Paris Branch;

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[488826]

Industrials

Global Sector Head, Industrials Colin Gibson +44 20 7991 6592 [email protected]

Analyst Scott Cagehin +44 20 7992 1444 [email protected]

Head of Research, Korea Brian Cho +822 3706 8750 [email protected]

Analyst Paul Choi +822 3706 8758 [email protected]

Analyst Anderson Chow +852 2996 6669 [email protected]

Analyst Puneet Gulati +91 22 2268 1235 [email protected]

Analyst Michael Hagmann +44 20 7991 2405 [email protected]

Analyst Yeon Lee +822 3706 8778 [email protected]

Analyst Kristy Lee +65 6658 0616 [email protected]

Analyst Sean McLoughlin +44 20 7991 3464 [email protected]

Analyst Ashutosh Narkar +91 22 2268 1474 [email protected]

Analyst Shrinidhi Karlekar +91 22 6164 0689 [email protected]

Analyst Mark Webb +852 2996 6574 [email protected]

Analyst Nick Webster +27 11 676 4537 [email protected]

Analyst Thomas Zhu, CFA +852 2822 4325 [email protected]

Autos

Analyst Horst Schneider +49 211 910 3285 [email protected]

Analyst Yogesh Aggarwal +91 22 2268 1246 [email protected]

Analyst Henning Cosman +49 211 910 2461 [email protected]

Analyst Vivek Gedda +91 22 6164 0693 [email protected]

Analyst Carson Ng +852 2822 4397 [email protected]

Associate Mike Yip +852 2996 6942 [email protected]

Transportation

Analyst Andrew Lobbenberg +44 20 7991 6816 [email protected]

Associate Aric Hui +852 2822 3165 [email protected]

Analyst Parash Jain +852 2996 6717 [email protected]

Analyst Achal Kumar +91 80 3001 3722 [email protected]

Analyst Wei Sim +852 2996 6602 [email protected]

Analyst Shishir Singh +852 2822 4292 [email protected]

Analyst Jack Xu +852 2996 6566 [email protected]

Analyst Joe Thomas +44 20 7992 3618 [email protected]

Construction & Engineering

Analyst Levent Bayar +90 212 376 46 17 [email protected]

Analyst Tarun Bhatnagar +65 6658 0614 [email protected]

Head of French Research Pierre Bosset +33 1 56 52 43 10 [email protected]

Analyst Jonathan Brandt +1 212 525 4499 [email protected]

Analyst Ivan Enriquez +52 55 5721 2397 [email protected]

Global Equity Head of Building Materials John Fraser-Andrews +44 20 7991 6732 [email protected]

Analyst Tobias Loskamp +49 211 910 2828 [email protected]

Analyst Lesley Liu +852 2822 4524 [email protected]

Analyst Shishir Singh +852 2822 4292 [email protected]

Analyst Patrick Gaffney, CFA +966 11 299 2100 [email protected]

Analyst Nicholas Paton, CFA +971 4 423 6923 [email protected]

Analyst Sean Tian +852 2996 6916 [email protected]

Analyst Liwei Zhou +852 2996 6743 [email protected]

Analyst Emily Li +852 2996 6599 [email protected]

Specialist Sales

Rod Turnbull +44 20 7991 5363 [email protected]

Oliver Magis +49 21 1910 4402 [email protected]

Billal Ismail +44 20 7991 5362 [email protected]

Jean Gael Tabet +44 20 7991 5342 [email protected]

Global Industrials Research Team

mailto:[email protected]




































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